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17 hikes in rates later, a pause

The halt interest increases could end as soon as next month, when a Federal Reserve panel again looks at inflation.

By HELEN HUNTLEY
Published August 9, 2006


The Federal Reserve left short-term interest rates unchanged Tuesday, giving consumer and business borrowers a breather after two years of steadily increasing how much they pay for loans.

The federal funds rate will stay at 5.25 percent, ending a streak of 17 consecutive hikes by the Fed of short-term interest rates that began in June 2004. At the time, the benchmark rate was just 1 percent, a 46-year low.

When the Fed holds short-term rates steady, banks and financial institutions such as credit card companies generally don't change their rates. So borrowers with variable-rate debt, including credit card and home equity lines of credit, probably won't see their rates go up in the near future.

But borrowers with adjustable-rate mortgages aren't out of the woods yet, warned Greg McBride, senior financial analyst for Bankrate.com in North Palm Beach. "The cumulative effect of all the increases to date means your rate is going to go up - next month, in the next six months or sometime next year," he said.

The Fed moves short-term interest rates up or down through changes in the federal funds rate, which is the rate banks charge each other for overnight loans. Banks respond to changes almost immediately by raising or lowering their prime rates, now at 8.25 percent.

The prime rate is used as a benchmark for many loans, so as the Fed tightened rates, borrowers have had to pay more for credit cards, business and car loans. The flip side is that savers have benefited as rates on money market funds and bank certificates of deposit have risen.

During this pause, CD rates probably will remain about the same, with a few banks offering good deals.

"It restricts business somewhat, but higher interest rates help us retired people," said Brooksville retiree Wayne Johnson, 73. "We can get a little more on our money."

Still Johnson said he thought Tuesday's rate pause by the Fed was a good idea. "You don't want too much inflation, but some inflation is good," he said. Higher interest rates help control rising inflation.

The impact on longer-term rates, such as mortgages, is more difficult to predict. Since the Fed began tightening two years ago, long-term rates have barely budged. At 5.25 percent, the federal funds rate is higher than the yield on the 10-year Treasury note, which was 4.92 percent Tuesday. When short-term rates become higher than long-term rates, it can sometimes signal slower economic times ahead.

"Long-term rates are still very low at this point and 30-year mortgage rates are pretty reasonable by historical standards," said Scott Brown, chief economist at Raymond James & Associates in St. Petersburg. "It's not likely, but you're looking at some chance of a recession over the next four quarters."

"I think the Federal Reserve did exactly the right thing," said Clearwater financial planner Ray Ferrara at ProVise Management Group. "They're saying 'Let's stop and wait until the economy catches up with us. Let's don't overshoot it. Let's really try and engineer that soft landing.' "

Ed Keon, chief investment strategist at Prudential Equity Group in New York, said the Fed's move could be good for the stock market, which has been volatile in recent weeks as investors tried to anticipate what the Fed would do. Stocks closed lower Tuesday with the Dow Jones industrial average falling 45.79 points to 11,173.59.

The Fed walks an economic tightrope, trying to keep the economy growing without allowing inflation to get out of hand. For the past two years, inflation has been the Fed's biggest concern. But, as the central bank noted in its statement, the housing market is cooling and higher interest rates and energy costs are dampening economic growth.

"Inflation pressures seem likely to moderate," the Fed's Open Market Committee, which sets interest rates, said in its official statement. However, it stopped short of saying it was finished raising rates. "The committee judges that some inflation risks remain."

The pause could end as early as next month, when the committee holds the first of three additional meetings scheduled through the end of the year.

Information from the Associated Press was used in this report. Helen Huntley can be reached at hhuntley@sptimes.com or 727 893-8230.

[Last modified August 9, 2006, 01:23:18]


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