The Federal Reserve is raising interest rates from record lows set at the depths of the 2008 financial crisis, a shift that heralds modestly higher rates on some loans.
The Fed coupled its first rate hike in nine years with a signal that further increases will likely be made slowly as the economy strengthens and inflation rises from undesirably low levels.
Wednesday’s action signaled the central bank’s belief that the economy has finally regained enough strength 61/2 years after the Great Recession ended to withstand modestly higher borrowing rates.
“The Fed’s decision today reflects our confidence in the U.S. economy,” Chairwoman Janet Yellen said at a news conference.
The Fed said in a statement after its latest meeting that it was lifting its key rate by a quarter-point to a range of 0.25 percent to 0.5 percent. Its move ends an extraordinary seven-year period of near-zero borrowing rates. But the Fed’s statement suggested that rates would remain historically low well into the future, saying it expects “only gradual increases.”
“The Fed reaffirmed that the pace of rate hikes would be slow,” James Marple, senior economist at TD Economics wrote in a research note. “The Fed’s expectations for rate hikes next year are set alongside a relatively cautious and entirely achievable economic outlook.”
Stocks closed up sharply higher. The Dow Jones industrial average, which had been up modestly before the announcement, gained 224 points, or 1.3 percent, for the day.
The bond market didn’t react much. The yield on the 10-year Treasury note rose slightly to 2.29 percent.
For anyone considering whether to buy a home or car, the Federal Reserve’s interest rate increase Wednesday shouldn’t make much difference.
The rates that most people pay for mortgages, auto loans or college tuition aren’t expected to jump anytime soon. The Fed’s benchmark interest rate has limited influence on those things.
Still, the Fed’s move to lift its key rate by a quarter-percentage point will raise short-term borrowing costs for banks. And that, in turn, is intended to prod banks to boost certain other rates. Rates on credit cards and home equity loans and credit lines, for example, will most likely rise, though probably only slightly.
The rate the Fed controls is only one factor among many that can influence longer-term borrowing costs. And the Fed made clear it will assess the economy’s health before raising rates further.
“Loans that are linked to longer-term interest rates are unlikely to move very much,” Fed Chair Janet Yellen said at a news conference. “Credit card rates ... might move up slightly. But remember, we have very low rates, and we’ve made a very small move.”
Mortgage rates tend to move in sync with the yield on 10-year Treasury notes. When inflation remains as low as it is now, Treasury notes, with their modest returns, are considered a safe and decent investment. And heavy purchases of Treasurys by U.S. and foreign investors — and by many foreign governments, such as China — help keep those yields low.
IMPACT ON CONSUMERS
Rates on mortgages and car loans aren’t expected to rise much soon. The Fed’s benchmark rate doesn’t directly affect them. Long-term mortgages, for example, tend to track 10-year U.S. Treasury yields, which will likely stay low as long as inflation does and investors keep buying Treasurys.
But rates on some other loans, like credit cards and home equity credit lines, will likely rise, though probably only slightly as long as the Fed’s rate hikes remain modest.
Shortly after the Fed’s announcement, major banks began announcing that they were raising their prime lending rate from 3.25 percent to 3.50 percent. The prime rate is a benchmark for some types of consumer loans such as home equity loans. Wells Fargo was the first bank to announce the rate hike.
Among other things, the Fed’s low-interest rate policies have helped jump-start auto sales, which are on track to reach a record 17.5 million this year. And the Fed’s first hike may not slow them.
Steven Szakaly, chief economist for the National Automobile Dealers Association, says dealers will press financing companies to keep loan rates low. And competition for buyers will spur them to take other steps to hold down rates, such as accepting lower profits.
“The rate squeeze will happen between the dealer and its finance company rather than the dealer and the consumers,” Szakaly said. “Consumers won’t even feel it.”
Cleveland-based economist George Zeller knew the increase was coming. Zeller explained the Fed’s main purposes are to keep inflation low, which is done by raising rates, and to raise employment growth, which is done by lowering the rates.
“We are already growing too slowly in Ohio; the more they increase rates, the slower we grow,” Zeller said.