Finally, the US Federal Reserve has judged that economic conditions are right to move interest rates away from the historic low value that they have been held at since December 2008. Since that date, the Federal Reserve’s Federal Fund rate has been lower bound in the range 0 to 0.25%. The rate reflects the interest that banks are paid on overnight deposits maintained at the Federal Reserve. This rate has now been increased by 0.25% to stand, obviously enough, within the range 0.25 to 0.5%.
The move has been on the cards since the end of the Taper, in the autumn of 2014, when the Fed ended its quantitative easing programme, but conditions within the US economy and external, global factors, have not been judged to make a hike prudent before now. As a consequence of the speculation, the move has been long anticipated, but has been broadly welcomed by investors on global stock exchanges. The Dow Jones Industrial average closed 1.3% higher as investors digested the news.
The current rate is well below the typical long-term interest rate of 3.5%. It is anticipated that this rate will not be seen before 2018 and the Fed has been at pains to stress that interest rates will rise gradually and that each hike will be carefully assessed before further moves are implemented. Federal Reserve Chairman, Janet Yellen would not be drawn on the specific timetable for future increases, stating: "I'm not going to give you a simple formula for what we need to raise rates again." However, the Federal Reserve’s projection for the medium term sees rates at 1.5% in 2016 and 2.5% in 2017. Given that the Fed’s open markets committee meets every two months, mathematics would suggest that next year promises that four out of six meetings will see rate hikes of further increments of 0.25%.
The last time that the Fed increased interest rates was back in 2006. The committee’s statement accompanying yesterday’s rise noted: "The committee judges that there has been considerable improvements in labor market conditions this year, and it is reasonably confident that inflation will rise, over the medium term, to its 2% objective."
The increase is modest and has been expected for a long time, so it is unlikely that it will cause turmoil in foreign economies, but it heralds the fact that the days of “cheap” money are numbered.