Federal Reserve opens policy meeting; interest rate hike likely

A police officer keeps watch in front of the US Federal Reserve building in Washington, DC.
A police officer keeps watch in front of the US Federal Reserve building in Washington, DC.PHOTO: REUTERS

WASHINGTON (AFP) - The US central bank opened its final two-day policy meeting of the year on Tuesday and was likely to raise the benchmark interest rate despite the absence of inflation.

It would be the third rate hike this year, and possibly the final time Federal Reserve Chair Janet Yellen presides over a policy move since US President Donald Trump has opted to replace her in February.

Analysts say the booming labour market, which in recent months has pushed the unemployment rate down to 4.1 per cent, the lowest in 17 years, will outweigh the Fed's perplexity over why inflation has stayed stubbornly below the central bank's 2 per cent target.

And with Republicans in Congress working to finalise a unified final version of a massive tax overhaul that will slash corporate taxes, central bankers likely will be thinking about the measure's potential to add fuel to the economy and finally ignite price increases, economists say.

"Labor markets and prospects of fiscal stimulus outweigh soft inflation" in the rate decision, Barclays said in a Fed outlook note.

With the rate-setting Federal Open Market Committee widely expected to increase the benchmark lending rate, analysts will focus on the wording of the Fed statement and the quarterly forecast for hints about how fast rates are likely to increase next year.

Most economists see three increases again in 2018, but will watch to see if more Fed officials forecast four rate hikes or make any mention of the tax cuts' likely impact on economic growth.

Even so, "further upward adjustment will likely have to wait until either the tax cut passes or there is sufficient evidence to suggest that inflation is firming faster than anticipated", Barclays said.

But Jim O'Sullivan of High Frequency Economics said "we expect officials will signal no let-up in tightening in response to a tight and still-tightening labour market". He is projecting four rate increases next year.

Job gains, while slower than last year, are running at 174,000 a month on average, and companies around the country are reporting difficulty in finding workers to fill open positions.

Normally that would be expected to drive wage gains and fuel price increases. But the Fed's preferred measure of annual inflation has remained well below the two per cent target, slipping to 1.6 per cent in October.

The absence of inflation has baffled Fed officials and led to a split among those policymakers who want to go slowly and those who want to hike more quickly before price increases hit the economy.

Ms Yellen will preside over one more FOMC meeting in January, and then Mr Trump's pick for central bank chief, Fed governor Jerome Powell, is due to take over in early February.Even so, "further upward adjustment will likely have to wait until either the tax cut passes or there is sufficient evidence to suggest that inflation is firming faster than anticipated", Barclays said.

But Jim O'Sullivan of High Frequency Economics said "we expect officials will signal no let-up in tightening in response to a tight and still-tightening labour market". He is projecting four rate increases next year.

Job gains, while slower than last year, are running at 174,000 a month on average, and companies around the country are reporting difficulty in finding workers to fill open positions.

Normally that would be expected to drive wage gains and fuel price increases. But the Fed's preferred measure of annual inflation has remained well below the two per cent target, slipping to 1.6 per cent in October.

The absence of inflation has baffled Fed officials and led to a split among those policymakers who want to go slowly and those who want to hike more quickly before price increases hit the economy.

Ms Yellen will preside over one more FOMC meeting in January, and then Mr Trump's pick for central bank chief, Fed governor Jerome Powell, is due to take over in early February.