Fed board to trim sails but not change course of economy

You may have to pay slightly more to borrow money. And economic growth will slow a bit, but not enough to set off an election-year political explosion. Those are the key results that analysts say will flow from the Federal Reserve Board's recent apparent decision to reduce the supply of credit, in a bid to keep the economy from overheating.

The Federal Open Market Committee, which sets the Fed's monetary strategy, is scheduled to meet March 26 and 27. The committee, composed of Federal Reserve Board members and the presidents of five regional Fed banks, gathers in secret. Summaries of its meetings are not released for several months.

But Fed analysts expect the meeting likely will ratify a decision to tighten credit conditions, a decision that already has been made and implemented.

''The full committee will merely ratify steps'' already taken, says Jeffrey Leeds, vice-president and money-market economist at New York's Chemical Bank. ''The move they have made has been aggressive.''

''The Fed has indeed tightened,'' adds Deborah Johnson, vice-president and economist at Prudential Bache Securities.

Analysts cite a recent significant rise in the federal funds rate as a major sign that Fed policy has changed. The federal funds rate tracks the cost of funds that banks trade among themselves overnight to satisfy government reserve requirements. The Fed does not set the federal funds rate, but it does influence its movement by adding or subtracting reserves from the banking system.

Recently, the rate has risen from an average of 9.59 percent in February to as high as 10.44 percent last week.

Consumer loan rates are likely to follow the rise in the federal funds rate. ''They will go up but less quickly than money (market) rates,'' which fall in line with the federal funds rate more rapidly, says David Berson, senior financial economist at Wharton Econometric Forecasting Associates.

Consumer loan rates tend to be more sticky in both upward and downward directions than other rates. Still, Mr. Berson expects consumer loan rates to move up this year between one half and three quarters of a percentage point from where they currently stand.

There is a possibility that the Open Market Committee could tighten credit conditions slightly more at its meetings this week, but most market watchers believe the Fed will first gauge the impact of its recent tightening.

''There is a chance they might decide to apply the brakes a bit harder,'' says Paul Boltz, vice-president and financial economist at T.Rowe Price Associates Inc., a mutual-fund company. Usually the Fed moves in well-spaced steps to tighten, he notes. But some additional action ''is not out of the question.''

Recent money-supply growth figures make it unlikely the Fed will loosen credit conditions. On March 22 the Fed announced that M-1, its term for cash and private checking deposits held by the public, rose $4 billion for the week ended March 12. That put the measure close to the upper end of the Fed's 4 to 8 percent target growth range for M-1.

Most economists don not think the Fed will engage in further credit tightening this week. But they do expect it to raise the discount rate, the rate at which banks can borrow funds from the Fed. The Fed often uses changes in the discount rate to signal shifts in monetary policy.

The discount rate now is 8.5 percent, well below the more than 10 percent which banks pay each other to borrow funds. As a result, borrowing at the Fed's discount window has been moving up recently. In the week ended March 21, such borrowing averaged more than $1 billion, up from $851 million the previous week.

Rising interest rates are an especially sensitive issue in an election year. But most analysts say the amount of tightening the Fed has done so far won't cause the economy to falter before the election.

However, most forecasters do not expect the economy to maintain the 7.2 percent growth rate the Commerce Department predicts for the first quarter. If the economy cools, most of the slowdown will not be due to Fed pressure on interest rates, says Allen Sinai, senior vice president of Lehman Brothers Kuhn Loeb Inc.

Instead, the slowdown will be a result of the economy ''having exhausted the pent-up demand of consumers in what was a spending spree in November, December, and January,'' Mr. Sinai says. He notes that it is too early to tell if the slowdown already has begun.

''The impact of the rise in rates thus far will be quite minor on general economic activity and on monetary growth,'' Mr. Boltz adds.

Nevertheless, higher interest rates and budget deficit worries will contribute to a less positive climate for business and personal spending, Mr. Leeds says.

And for the economy, he says, that ''will take a little of the bloom off the rose.''

You've read  of  free articles. Subscribe to continue.
QR Code to Fed board to trim sails but not change course of economy
Read this article in
QR Code to Subscription page
Start your subscription today