Surging energy prices and a strengthening jobs climate raised the risk that inflation could worsen, underscoring the need for Federal Reserve policy-makers in August to keep boosting short-term interest rates higher.
But Fed policy-makers suggested they could stick with their course of gradually bumping up rates in modest quarter-point increments because of other forces that could serve to blunt inflation, according to minutes released Tuesday of the Fed’s last meeting, on Aug. 9.
Competition from foreign companies is acting as an inflation-tempering force, the Fed minutes said. That competitive force is making it harder for U.S. companies to fully pass through to consumers higher costs due to soaring energy prices.
“While most participants viewed the risks to inflation as having ticked up over the intermeeting period, many also cited factors that ... would tend to hold inflation pressures in check,” the minutes stated. “The continuing expansion of global trade was seen as an important factor limiting firms’ ability to pass through cost increases,” the minutes said.
Instead, companies are paying for a chunk of the higher energy and other costs out of their profits, which are getting squeezed, the minutes suggested.
At the August meeting, Fed policy-makers lifted a key interest rate, called the federal funds rate, by one-quarter percentage point to 3.50 percent, the highest in nearly four years. It marked the 10th quarter-point increase since the Fed began to tighten credit in June 2004.
In Fed parlance, those quarter-point moves are known as the Fed’s “measured,” or gradual, pace to interest rate policy-making.
Since the August meeting, energy prices have marched even higher. On Tuesday, oil prices, which briefly shot up over $70 a barrel, closed at a record high of $69.81.
Federal Reserve officials at the August meeting discussed at length the factors affecting prices. Although uncertainties complicated the inflation outlook, higher energy prices and a stronger job market “were seen as pointing to elevated inflation pressures,” the minutes said.
Economists believe the Fed will increase rates by another quarter point at the Fed’s next meeting, Sept. 20, as well as the year’s last two meetings in November and December.
If that turns out to be the case, the federal funds rate — the interest banks charge each other on overnight loans — would climb to 4.25 percent by the end of this year. That would push commercial banks’ prime rate to 7.25 percent. The prime rate is used for many short-term consumer and business loans.
Economists believe the Fed’s rate increases will continue into next year.
“There were no bombshells” in the Fed minutes “but officials clearly acknowledged the strengthening in economic activity and ratcheted up their inflation concerns,” said Steve Stanley, chief economist at RBS Greenwich Capital.
Stocks fell. The Dow Jones industrials lost 50.23 points to close at 10,412.82.
Housing to cool
On the booming housing market, Fed policy-makers generally anticipated that the torrid pace of increases in home prices “would slow over time, though the timing and the extent of that slowing, as well as its implications for consumer spending were quite uncertain,” the minutes said. Consumer spending is a key force driving economic activity.
Federal Reserve Chairman Alan Greenspan on Saturday said the red-hot housing market will eventually cool down, making some people feel less wealthy and less inclined to be big spenders. One day earlier, the Fed chief cautioned Americans against thinking the value of their homes and other investments will only go higher, saying “history has not dealt kindly” with that kind of optimism.
In the Fed minutes, a few Fed officials voiced concerns that the still-low interest rate climate enjoyed for the last several years was continuing to foster “an inappropriate degree of risk-taking in financial markets.”
On the nation’s fiscal situation, recent projections of a smaller budget deficit this year — helped by stronger tax revenues — doesn’t change the sobering long-term budget picture, the minutes said.
“Few signs were evident that greater fiscal discipline in the budget process would emerge any time soon,” the minutes said. “As a result, federal deficits were expected to continue to act as a considerable drain on national saving over the longer run.”