Fed raises rates to check inflation
(Agencies)
Updated: 2005-03-23 07:23

Analysts said if policy-makers at the Federal Reserve grow concerned that inflation is becoming a problem, they are likely to start pushing up interest rates at a much more rapid clip. [AP]

WASHINGTON - The Federal Reserve, concerned that soaring energy prices could stoke broader inflation, boosted short-term interest rates Tuesday and signaled rates would probably keep on rising in the months ahead.

Federal Reserve Chairman Alan Greenspan and his colleagues, sticking to a course of gradually raising rates, bumped up the federal funds rate by one-quarter percentage point to 2.75 percent. That marked the seventh increase of that size since the Fed began tightening credit in June 2004.

In a brief statement after their meeting, the Fed policy-makers drew more attention to rising prices than they have in previous assessments, noting that "pressures on inflation have picked up in recent months."

Still, they said the increases in energy prices haven't fed through to "core" consumer prices — those for a variety of goods other than food and energy. And, they said, "longer-term inflation expectations remain well contained."

Economists viewed the Fed's overall comments on inflation as slightly more hawkish and believed that suggested further interest-rate increases well into the year.

"The central bank has more work to do to combat possible inflation in the future," said Sung Won Sohn, president and chief economist of Hanmi Bank.

In response to the Fed's action, commercial banks began lifting their prime lending rates by one-quarter point to 5.75 percent. This rate, used for many short-term consumer and business loans, moves in lockstep with the funds rate.

On Wall Street, stocks tumbled as the Fed's comments on inflation rattled investors. The Dow Jones industrials lost 94.88 points to close at 10,470.51.

The Fed is lifting rates as energy prices are climbing again. Oil prices, which set a new record high last week, were hovering above $56 a barrel in trading Tuesday. That's helping to propel gasoline prices sharply higher.

More expensive energy and food were the culprits behind wholesale prices rising 0.4 percent in February, the most in three months, the government reported Tuesday. However, "core" prices — which exclude energy and food — inched up 0.1 percent.

A currency exchange employee counts US dollar notes. The dollar extended its recent gains after the Federal Reserve's statement accompanying its rate hike contained a warning on inflation that some said could signal a more aggressive stand. [AFP]

For now, the Fed decided to keep language it has used with every rate increase, saying that future rate increases would occur "at a pace that is likely to be measured." Measured has come be to viewed as quarter-point bumps.

A few economists thought that language might be dropped at Tuesday's meeting. Some believe it might be dropped at a subsequent meeting, perhaps at the next Fed gathering on May 3 or the meeting on June 29-30.

If the "measured" phrase is abandoned, that could mean future interest-rate increases might be less predictable than they have been, economists said.

Even if that happens, some economists don't believe it necessarily means the Fed will begin to order bolder, half-point rate increases. At the moment, many economists foresee interest rates continuing to rise in modest, quarter-point increments.

How economic activity and inflation unfold in the months ahead, however, will ultimately shape how the Fed acts.

"The Fed is saying we have a lot more work to do," said Ethan Harris, chief U.S. economist for Lehman Brothers.

Some economists predict the Fed will keep lifting the funds rate through much of this year, pushing the rate up to around 4 percent. That would put the prime rate at 7 percent.

The funds rate is the interest that banks charge each other on overnight loans and is the Fed's main tool for influencing the economy. Before the Fed began its rate-raising campaign, the funds rate stood at 1 percent, a 46-year low.

That extraordinarily low rate had been used to shore up the economy, which had struggled to recovery from the 2001 recession and the Sept. 11, 2001, terrorist attacks.

These days the economic expansion is firmly rooted.

The economy, which grew at a solid 3.8 percent annual rate in the final quarter of 2004, is expected to do as well or better in the current quarter, analysts predict.

Fed policy-makers said the economy "continues to grow at a solid pace despite the rise in energy prices and labor market conditions continue to improve gradually."

Employers added 262,000 jobs in February, the most since October. Economists are hopeful payrolls will post sizable gains in the coming months, though they are concerned that may not occur if energy prices continue to surge and make businesses more cautious.

Even with the Fed's string of rate increases, longer-term rates, such as mortgage rates, have behaved relatively well. Economists expect that longer-term rates will rise gradually — rather than shoot up — in the months ahead.

Some analysts predict rates on 30-year mortgages will climb by the end of the year to a high of around 6.5 percent, which would still be considered fairly low by historical standards. Rates on 30-year mortgages now stand at 5.95 percent.

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