Fed Expected to Raise Interest Rates

Federal Reserve (search) policy-makers were set to nudge U.S. interest rates higher for a 12th straight time on Tuesday, confident that expansion is on track but wary that costlier energy could fire dangerous inflation.

There was unanimous agreement among economists surveyed earlier this month by Reuters that the Federal Open Market Committee (search) will agree to push the trend-setting federal funds rate up another quarter percentage point to 4 percent.

FOMC members begin meeting at 9 a.m. EST and a formal announcement is anticipated at about 2:15 p.m. EST, together with the U.S. central bank's analysis of economic conditions and the level of policy accommodation.

Since the last FOMC meeting on Sept. 20, most comments from Fed officials have carried a hawkish tone and key gauges of the economy have generally — if not universally — implied steady growth ahead.

Last week's government report showing gross domestic product (search) expanded at a 3.8 percent annual rate in the third quarter, despite the impact of rising energy prices and hurricanes, was one measure of the economy's resilience. Growth accelerated from the second quarter's 3.3 percent.

Taking Up Slack

With such economic momentum in place, policy-makers are considered unlikely to change their view that there still is "accommodation" in monetary policy — the Fed's way of saying that its federal funds rate needs to keep rising.

Economist Richard Berner of Morgan Stanley, in a written commentary to clients on Monday, said it appears that policy-makers see a neutral rate, which neither hinders expansion nor fires inflation, at around 4 1/2 percent.

"The balance of risks now suggests that the Fed is not likely to move to the sidelines until the funds rate reaches that level," Berner wrote, especially since long-term rates have not risen in company with short rates the Fed controls.

The prevailing view is that central bank policy-makers likely will keep raising rates at least through the tenure of current Fed chairman Alan Greenspan, which ends next January. The remaining two meetings under the Greenspan era are scheduled for Dec. 13 and Jan. 31

Betting was about even in futures markets that the White House's nominee to replace Greenspan, former Fed governor Ben Bernanke, will oversee at last one more rate rise in March when he chairs his first FOMC meeting.

Outlook Murkier Ahead

The outlook for the economy becomes slightly murkier looking into 2006, especially if rising costs for gasoline and home heating oil begin to bite into consumers' willingness and ability to keep fueling growth through spending.

Income and spending data for September issued on Monday by the Commerce Department showed a modest rise in spending which, after adjusting for inflation, turned into a small decline that signaled pocketbooks were under pressure.

"But inflationary pressures are not going away, so the Fed will likely raise rates tomorrow and on Dec. 13 and early next year," concluded economist Joel Naroff of Naroff Economic Advisors in Holland, Pa.

Central bankers are balancing the risk of a spending slowdown against the possibility of costlier energy touching off a wage-price spiral — and seem determined to clamp down on inflation.

"We all remember the bad old days of the 1970s. ... It is stamped on the mind of central bankers," San Francisco Fed President Janet Yellen said on Oct. 18.

A day later, Fed Governor Donald Kohn said he too felt it was too soon to consider a pause in rate rises since inflation was likely to strengthen unless economic growth eased.

"We are considerably closer to where policy needs to be than we were 16 months ago, but we are not yet at a point where we can stop and watch the economy evolve for a while," Kohn told a Pittsburgh audience.