Washington – Federal Reserve officials, expressing confidence that Hurricane Katrina will cause no more than a temporary hit to the economy, raised their key short-term interest rate by a quarter of a percentage point Tuesday to make sure inflation stays under control.
In an unusually long and sympathetic statement released after their meeting, the central bank policymakers said, “The widespread devastation in the Gulf region … and the boost to energy prices” imply that national consumer spending, employment and overall economic growth “will be set back in the near term.”
But, they added, “while these unfortunate developments have increased uncertainty about near-term economic performance, it is the (Fed’s) view that they do not pose a more persistent threat.” Rather, they said, low interest rates continue to stimulate economic growth, while “higher energy and other costs have the potential to add to inflation pressures.”
The federal funds rate influences many other borrowing costs throughout the economy.
Shortly after the Fed’s action, major banks raised their prime rate on business loans a similar quarter percentage point to 6.75 percent from 6.5 percent. Many consumer rates, such as on credit cards and home equity loans, may rise as well. Banks and other financial institutions may increase the rates they pay on savers’ certificates of deposit and money market funds.
However, long-term rates, such as those charged on 30-year mortgages and on corporate debt, are determined by global markets. Those rates have remained low during the past 15 months, even as the Fed hiked short-term rates.
For example, the fixed rate on a 30-year mortgage averaged 5.74 percent nationally last week, barely below where it was a year before at 5.75 percent, according to mortgage finance company Freddie Mac.
The central bank’s top policymaking group, the Federal Open Market Committee, had a dissenting vote for the first time in more than two years.
Nine of the 10 voting members, including Chairman Alan Greenspan, agreed to raise their benchmark federal funds rate to 3.75 percent from 3.5 percent. But Fed board member Mark Olson voted against the move, saying he preferred to leave the rate unchanged – the first dissent on the committee since June 2003.
More members came to the meeting open to Olson’s position; only seven of the 12 regional Fed banks had requested a similar quarter-percentage point increase in the largely symbolic discount rate to 4.75 percent – a sign that five banks would have been content with no increase in the funds rate.
The committee made it clear that it plans to keep raising the rate in the months to come, repeating that it believes it can do so gradually, “at a pace that is likely to be measured.”
The Fed’s action marked its 11th consecutive quarter-percentage-point increase in the federal funds rate, the overnight rate charged on loans between banks, since June 2004, when it was at a four-decade low of 1 percent.
Many investors and analysts have come to expect a “measured” pace to mean a quarter- percentage-point increase at every scheduled Fed meeting. But Fed officials have stressed that they could pause or increase the rate by as much as half a percentage point at a time, depending on the behavior of the economy.
That leaves open the possibility that Fed officials will leave the federal funds rate unchanged at its next meeting Nov. 1 if consumers and businesses pull back sharply in the weeks ahead. Or the group could raise the rate by a half-point if inflation takes off.
Fed officials stressed their sympathy for the victims of Hurricane Katrina and their upbeat belief that the economy was in solid shape before the storm hit.
Consumers and businesses were increasing their spending rapidly, and unemployment had fallen to 4.9 percent in August.
