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Wednesday, 16 December 2015 15:59

Economists see little effect on the economy from expected interest rate increase

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Economists say the quarter-point increase in a key interest rate will have little or no effect on the economy and represents the start of a return to normal after years at historic lows.

The Federal Reserve Open Market Committee increased the federal funds rate to a target range of 0.25 to 0.50 percent from zero to 0.25 percent, where it had sat ever since being dropped during the depths of the Great Recession.

Economist Mitch Stapley, chief investment officer at ClearArc Capital Inc. in Grand Rapids, called the increase “the most widely telegraphed central bank policy move in the history of mankind.”

“This is a move back toward normalization,” said Stapley, who doubts the increase will cause any drag on the economy.

“I do not believe that there is a single decision to allocate capital that does not get made today because the fed fund rate went from zero to 25 basis points,” Stapley added. “We’re normalizing rates here because the economy is strong enough to handle it. That’s a good sign.”

History dictates that it’s usually the third or fourth increase once the fed starts moving interest rates upward that “really trips the economy up,” Stapley said. Today’s increase, the first in nine years, stems from what the FOMC sees as strength in the U.S. economy, he said.

The rate increase was so widely expected that, had the FOMC not made the move, “there would have been hell to pay,” said economist Brian Long, director of supply chain management research for Grand Valley State University’s Seidman College of Business.

The overwhelming sentiment is that interest rates needed to rise, Long said.

“The economic effect will be negligible,” he said.

The question now is how much the FOMC will increase interest rates again at its next meeting in January.

Long believes Federal Reserve governors will “put their finger in the wind again and say ‘What do the prognosticators in the financial community think is going to happen?'” and won’t move rates upward again until they see a consensus.

“They won’t get out there until almost everybody thinks they’re going to,” he said. “At their next meeting, probably their next two meetings, they will probably do nothing, but when they get to that third meeting, somebody is going to raise the issue of, ‘Hey, can we justify going up another quarter point?’

“At some point, everybody knows they have to get back to normality. We’ve had the better part of seven to nine years of right now of practically non-existent interest rates, and if they don’t get back to normal we’re going to become permanently addicted to low interest rates, in which case everybody will build their business models around 2 percent or 3 percent loans, and that’s not good.”

In a statement after today’s meeting, the FOMC said future rate increases will hinge on “realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.

“The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data,” the FOMC stated.

George Mokrzan, director of economics at Huntington National Bank, expects the FOMC to make follow-up rate increases, although he doubts they will occur systematically. He noted that the FOMC’s statement said future increase “will be data-dependent.”

“They’ll be watching how the economy evolves and what’s happening in the economy,” Mokrzan said. “There will be a broad examination of what’s going on, and a broad evaluation of how the economy is developing and how financial assets are responding …. they would react accordingly.”

Read 1118 times Last modified on Friday, 18 December 2015 11:37

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