Federal Reserve boosts rate for 11th straight time

AP
Fed Boosts Key Rate a Quarter-Point
Tuesday September 20, 2:33 pm ET
By Martin Crutsinger, AP Economics Writer
Fed Boosts Key Rate a Quarter-Point, Signals More Rate Hikes Likely Despite Hurricane Katrina

WASHINGTON (AP) -- The Federal Reserve on Tuesday boosted a key interest rate for the 11th straight time and signaled that more rate hikes were likely even as the country recovers from the devastating effects of Hurricane Katrina.

The action pushed the Fed's target for the federal funds rate -- the interest that banks charge each other-- to 3.75 percent. That's the highest level since the summer of 2001.

Some economists had believed that Katrina, the country's costliest natural disaster, might prompt the Fed to pause temporarily in its campaign to drive interest rates higher to keep inflation in check. But Federal Reserve Chairman Alan Greenspan and his colleagues said that Katrina's impact on the overall economy was likely to be short-lived.

In a brief statement explaining the action, the Fed said that all the problems from Katrina "will be a setback in the near term" for the economy. But the Fed said it did not believe that Katrina would pose a "more persistent threat" and therefore believed it needed to continue raising interest rates to guard against inflation.

However, the central bank's decision was not universally supported. Fed Governor Mark Olson cast a lone dissenting vote, with the Fed explaining that he preferred to leave rates unchanged at Tuesday's meeting.

The Fed's rate hike is likely to spur commercial banks around the country to increase their prime rate by a quarter-point. That would push the prime, the benchmark for millions of consumer and business loans, to 6.75 percent, its highest point in more than four years.

The federal funds rate stood at a 46-year low of 1 percent when the Fed began raising interest rates in June 2003. Since that time, it has boosted rates at all of its regularly scheduled meetings.

The central bank signaled in its statement that more rate hikes could be expected by retaining language it has used in the past to describe the current level of interest rates as "accommodative."

Fed policy-makers also kept language stating that they believed rates could be raised "at a pace that is likely to be measured." That language is viewed as signaling further gradual quarter-point rate hikes.

The Fed, while deciding not to take a pause in its rate hikes because of Katrina, spent a good deal of its statement discussing the hurricane's likely impact.

"The widespread devastation in the Gulf region, the associated dislocation of economic activity and the boost to energy prices imply that spending, production and employment will be set back in the near term," it said.

But Fed policy-makers concluded, "While these unfortunate developments have increased uncertainty about near-term economic performance, it is the committee's view that they do not pause a more persistent threat."

The Fed's goal is to push the funds rate up to a level where it is neither stimulating economic activity nor slowing it down. Many economists believe that level lies somewhere between 4 percent and 4.5 percent.

The Fed had pushed the funds rate down to 1 percent as it battled to overcome the negative impacts of the bursting of the stock market bubble in 2000, the 2001 recession and the terrorist attacks that same year. However, with the economy now growing at a solid rate, the desire is to make sure that interest rates do not stimulate economic activity to such an extent that unwanted inflation pressures are triggered.

If the Fed keeps raising rates at its last two meetings of this year, in November and December, and at its Jan. 31 meeting, the funds rate would stand at 4.5 percent.

Many analysts believe that Greenspan wants to have completed the credit tightening needed to get to a neutral rate before he leaves office at the end of January.

The Fed earlier this month rescheduled its January meeting so that it would end on Jan. 31, the day Greenspan's term as a Fed board member ends. So far the administration has given no signal about a possible successor to Greenspan, who completed 18 years as Fed chairman in August.