Fed To Keep Short-Term Interest Rates Low
RENEE MONTAGNE, HOST:
In the U.S., the Federal Reserve now says it intends to keep its benchmark interest rate exceptionally low until the unemployment rate reaches six and a half percent. It's the first time the Fed has named a specific thresh-hold for when it would begin raising interest rates.
NPR's John Ydstie has more.
JOHN YDSTIE, BYLINE: The historic change in Fed communications with the public and the markets was announced after the regular two-day policy-making meeting yesterday. Fed Chairman Ben Bernanke explained the rational behind the change during his post meeting news conference.
BEN BERNANKE: We think it's a better form of communication. We think it's, by using the thresholds, which ties rates to economic conditions, we're more transparent about what's going to determine our policy in the future.
YDSTIE: The change means the Fed will no longer give calendar-based guidance about when it's likely to start moving rates up. Most recently, the Fed has said it planned to keep its benchmark rate exceptionally low until mid-2015.
That formulation had a number of problems, including possibly becoming a self-fulfilling prophecy that kept the economy from improving sooner.
Randall Kroszner, a former Fed governor and now a professor at the University of Chicago's Booth School of Business, says this is another step in Chairman Bernanke's effort to use communications tools to help boost the economy.
RANDALL KROSZNER: I sometimes say it's open mouth operations, rather than open market operations that are really the key here. And I think that's precisely the reason the Fed is doing this because it hopes that this can speed the reduction in the unemployment rate. Whether it will, of course, is an open question.
YDSTIE: Chairman Bernanke made clear that the six and a half percent target is not the level of unemployment the FED wants for the economy. It's the threshold where policymakers would begin to move interest rates off their current rock bottom level.
But there is a caveat. If inflation is projected to rise to two and one half percent in the next year or two, the Fed might start raising interest rates to rein it in, even if the unemployment rate is above the target level. Right now the unemployment rate is 7.7 percent and the inflation rate is around two percent.
In addition to overhauling their communications strategy, Fed officials also refashioned their bond buying program to give a greater boost to the economy. They said they'd continue to buy $40 billion worth of mortgage-backed securities a month and they also said they'd purchase $45 billion monthly in long-term Treasury bonds.
Randall Kroszner expresses skepticism it will do much good, using the old analogy of the Fed's stimulus policy as the punch bowl at party.
KROSZNER: Yeah, I wouldn't want to take the punch bowls right now, but I'm not sure that pouring a little bit more eggnog into the holiday mix is going to do much good.
YDSTIE: At his news conference, Bernanke repeated his warning that going over the fiscal cliff could push the economy back into recession. Bernanke said the Fed would do what it could to avoid that.
BERNANKE: But I just want to, again, be clear that we cannot the full impact of the fiscal cliff. It's just too big.
YDSTIE: Bernanke said the prospect of going off the fiscal cliff is already harming the economy by driving down consumer confidence, small business confidence and business investment.
John Ydstie, NPR News, Washington.
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