Federal Reserve policy-makers encouraged by the US economy's performance may bump up interest rates again next month -- a fifth time this year -- and will continue to tighten credit next year, economists predict.
The latest increase in short-term rates came on Wednesday, moving the federal funds rate by one-quarter of a percentage point to 2 percent. That rate stood at 1 percent, a 46-year low, when Fed Chairman Alan Greenspan and his colleagues began raising rates in late June. Over the past five months, the central bank has made four quarter-point moves.
Another one in store
The increases are part of a gradual process to wean the economy from what was an extraordinarily low federal funds rate.
The federal funds rate, which is the interest that banks charge each other on overnight loans, is the Fed's main tool to influence the economy.
"I remain convinced that another ... rate hike remains in store for next month," said Stuart Hoffman, chief economist at PNC Financial Services Group.
Economists noted that a funds rate too low could sow the seeds of inflation and have stressed the importance of moving the rate back to more normal levels. Some analysts believe a funds rate of around 4 percent would be relatively neutral, meaning it would neither slow nor stimulate economic activity.
There are eight scheduled Fed meetings next year; the first is Feb. 1-2. The pace of Fed increases next year will depend on the state of the economy and inflation, analysts said.
In response to the Fed's decision Wednesday to push up the funds rate, Wells Fargo said it was increasing by a corresponding amount its prime lending rate for many short-term consumer and business loans to 5 percent. Other commercial banks followed suit.
If the Fed does raise the funds rate by one-quarter of a percentage point at its Dec. 14 meeting, then the prime rate would move up to 5.25 percent; the prime rate moves in lockstep with the funds rate.
Even with the Fed's four rate increases, long-term interest rates such as mortgage rates have been subdued. That is keeping the housing market vibrant, helping to support the overall economy.
The economy grew at a respectable 3.7 percent annual rate in the third quarter. Oil prices, which hit a record high of just over US$55 a barrel late last month, clocked in at over US$48 a barrel in trading on Wednesday.
Even with high energy prices, the Fed said that inflation and longer-term inflation expectations "remain well contained."
That's a key reason why the Fed can stick with its gradual approach to raising rates, analysts said.