The Federal Reserve has modestly raised a key interest rate for the third time this year in response to a strong U.S. economy, and signalled that it foresees another rate hike before the year ends.
The Fed on Wednesday lifted its short-term rate—a benchmark for many consumer and business loans—by a quarter-point to a range of 2% to 2.25%. It was its eighth hike since late 2015, and the Fed indicated that it expects to continue gradual increases. It also stuck with its previous forecast for three more rate hikes in 2019.
In a statement after its latest policy meeting, the Fed dropped phrasing it had long used that characterized its policy as “accommodative”—that is, favouring low rates. The Fed had used variations of that pledge in the seven years that it kept its key rate at a record low near zero and over the past nearly three years in which it’s gradually tightened credit. In removing that language, the Fed may be signalling its resolve to keep raising rates.
In an updated economic outlook, the Fed foresees one final rate hike after 2019—in 2020—which would leave its benchmark at 3.4%. At that point, it would regard its policy as modestly restraining growth. The Fed seeks to slow the economy when it reaches full employment to prevent a tight job market from raising inflation too high.
In emailed commentary, CIBC senior economist Andrew Grantham noted that markets appear to be paying more attention to the dropping of policy remaining “accommodative” than to the longer-term benchmark: the U.S. dollar and bond yields fell slighting on today’s announcement.
President Donald Trump has argued publicly against higher rates, complaining that they would blunt his efforts to boost growth through tax cuts and deregulation.
The Fed’s latest forecast predicts that the unemployment rate, now 3.9%, will reach 3.7% by the end of this year and then 3.5% next year. Not since the late 1960s has unemployment fallen that low.
The central bank expects unemployment to begin rising to 3.7% in 2021. It foresees the economy, as measured by the gross domestic product, growing 3.1% this year before slowing to 2.5% in 2019, 2% in 2020 and 1.8% in 2021. The Fed sees the economy’s long-run growth at a 1.8% annual rate—far below the Trump administration’s projections for a sustained rate of 3%.
Many analysts think the economy could weaken next year, in part from the effects of the trade conflicts Trump has pursued with China, Canada, Europe and other trading partners. The tariffs and counter-tariffs that have been imposed on imports and exports are having the effect of raising prices for some goods and supplies and potentially slowing growth.
Compounding the effects of the tariffs and retaliatory tariffs resulting from Trump’s trade war, other factors could slow growth next year. The benefits of tax cuts that took effect this year, along with increased government spending, for example, are widely expected to fade.
Still, some analysts hold to a more optimistic scenario: that momentum already built up from the government’s economic stimulus will keep strengthening the job market and lowering unemployment, already near a 50-year low. A tight employment market, in this scenario, will accelerate wages and inflation and prod the Fed to keep tightening credit to ensure that the economy doesn’t overheat.
The robust job market has helped make consumers, the main drivers of growth, more confident than they’ve been in nearly 18 years. Business investment is up. Americans are spending freely on cars, clothes and restaurant meals.
All the good news has helped fuel a stock market rally. Household wealth is up, too. It reached a record in the April-June quarter, although the gain is concentrated largely among the most affluent.
Many economists worry, though, that Trump’s combative trade policies could slow the economy. Trump insists that the tariffs he is imposing on Chinese imports, to which Beijing has retaliated, are needed to force China to halt unfair trading practices. But concern is growing that China won’t change its practices, the higher tariffs on U.S. and Chinese goods will become permanent and both economies—the world’s two largest—will suffer.
Fed Chairman Jerome Powell has so far been circumspect in reflecting on Trump’s trade war. Powell has suggested that while higher tariffs are generally harmful, they could serve a healthy purpose if they eventually force Beijing to liberalize its trade practices.