Last week the Federal Reserve met for its final and most highly anticipated Federal Open Market Committee (FOMC) meeting of 2015. Prior to it, the question on every investor’s mind was “is this THE meeting that the Fed is going to start raising rates?” Yes! It was indeed THE meeting that the Fed chose to end the zero-rate era in a unanimous decision by policy voting members.
The federal funds rate, the rate banks charge each other for overnight loans, was lowered to zero in December 2008 to help the troubled U.S. economy. Following that, the Fed embarked on three rounds of Quantitative Easing (QE) to try to stimulate our economy. Seven years of zero rates and three QE programs later, the Federal Reserve feels confident the U.S. economy is strong enough to weather a 0.25% interest rate increase.
Why did the Fed finally decide to move from zero? It has a dual mandate of price stability and full employment. According to the FOMC statement, “The committee judges that there has been considerable improvement in labor market conditions this year, and it is reasonably confident that inflation will rise, over the medium term, to its 2% objective.” It views full employment as achieved and that transitory factors affecting inflation (i.e. declines in energy and import prices) will abate over time.
At the conclusion of the FOMC meeting, the Fed released its updated economic projections for the U.S. They show that the economy will continue to grow at a 2% or slightly higher pace, unemployment will decline a little further before leveling off, and inflation will finally reach the Fed’s 2% target in 2018.
Another release following the meeting was the Fed’s infamous dot plot. It shows the median for the federal funds rate for the end of 2016 to be 1.375%, unchanged from its September projections. This implies that the Fed currently sees four 0.25% interest rate increases next year. Janet Yellen reassured investors in her press conference that the “the process of normalizing interest rates is likely to proceed gradually.”
This incremental interest rate increase was highly anticipated and we do not believe it will have an impact on our outlook or our client’s portfolios. The Fed is going to remain accommodative as it gradually increases rates over time. We will continue to monitor the U.S. dollar and how a rate increase might impact it against foreign currencies. If you would like to discuss the Fed’s historic decision in more detail, feel free to give us a call.
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