WASHINGTON – The Federal Reserve (search) on Tuesday raised its interest rate target 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 (search).
The federal funds rate, the Fed's primary monetary policy tool, now stands at a four-year high of 3.75 percent after a series of increases that began 15 months ago.
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 (search) and his colleagues said that Karina's impact on the overall economy was likely to be temporary.
In a brief statement explaining the action, the rate-setting Federal Open Market Committee (search) 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 (search) 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 co 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.
Economists, in recent days, have come around to the view that the Fed will lift rates, persuaded the FOMC has its eye on the longer-run prize of controlling potential inflation.
"We are led to conclude that the current tightening cycle still has further to go," said economist Anthony Chan of JPMorgan Asset Management in Columbus, Ohio.
On Tuesday, the Commerce Department (search) said August housing starts fell from July by 1.3 percent to a 2.009 million unit annual rate. Katrina had a marginal impact on building, but its effect may have shown more directly in a 2.1 percent fall in U.S. chain-store sales last week, analysts said.
Reconstruction in hardest-hit areas is expected to give economic activity a lift later this year and in early 2006.
Estimates are that rebuilding might cost $200 billion, a huge fiscal stimulus that raises troubling questions for policy-makers about the potential impact on prices.
"In view of the stimulus already out there, I think the Fed will finish out the year by raising rates until the end," Chan said. If so, that would lift the fed funds rate to 4.25 percent by December.
Reuters and the Associated Press contributed to this report.