No One Believes the Fed’s Promises to Raise Interest Rates
Although the Federal Reserve has been regularly broadcasting its plans to raise its target interest rate next year, no one seems to be listening.
A recent paper by two economists at the San Francisco Fed found that neither economists and investors nor the general public believe that the Fed will raise rates as soon as they say.
"(M)arket participants currently are pricing in a lower path than the median (Fed official) projection, including a later liftoff date for raising the federal funds rate and a slower pace of tightening," wrote economists Jens Christensen and Simon Kwan in the paper. "The public also appears to be less uncertain about the future course of monetary policy than (Fed) participants."
The Federal Reserve has said it foresees raising its target interest rate to 1 percent by the end of 2015 and to2.5 percent by the end of 2016.
Yet economists Christensen and Kwan found that economists from Wall Street’s major companies do not believe the Fed will raise rates until the third quarter of 2015, with the target interest rate hitting just 0.75 percent by the end of 2015 and only moving up to 2.13 percent by the end of the next year.
So why the disconnect between public perception and what the Fed keeps saying it will do? Perhaps because the public senses the Fed itself is not entirely sure of its stated course. The Fed has been tapering its stimulus purchases of mortgage-backed bonds over the past several months, with plans to end the program altogether in October. Surprisingly though, markets have made very little response to this tapering and mortgage interest rates in particular have even fallen since the buying reductions began.
Perhaps it’s all in the wording. Last summer, when the Fed so much as mentioned it was thinking about tapering the bond purchases, mortgage interest rates jumped more than 0.50 percent in one week, the largest weekly hike in 26 years. The Fed then held off on any more tapering talk for a few more months while mortgage rates stabilized again at a slightly higher rate.
Since that time, even though the tapering has begun in earnest, the Fed has continued to officially say it will wait on raising its target interest rate for “a considerable time after the asset purchase program ends.” The Fed knows how easily its statements can spook investors and the market is not yet strong enough to take another record-breaking spike in mortgage rates.
So maybe even though the Fed does plan to raise rates sooner than later, its vague and non-committal statements have made it hard for the public to believe that the Federal Reserve will actually follow through on its policies. That does make things tricky for the Fed – if they say they are raising rates soon, the markets will fluctuate in fear. If they say the rate increases won’t happen for a while, no one believes their timeline. It seems like it might be better not to say anything at all.