Fed lifts its benchmark rate

Yellen cites confidence in recovery

Traders on the floor of the New York Stock Exchange watch Wednesday as Federal Reserve Chairman Janet Yellen holds a televised news conference on the Fed’s decision to raise interest rates.
Traders on the floor of the New York Stock Exchange watch Wednesday as Federal Reserve Chairman Janet Yellen holds a televised news conference on the Fed’s decision to raise interest rates.

WASHINGTON -- The Federal Reserve on Wednesday raised its short-term interest rates for the first time since the recession, a vote of confidence by the Fed in the strength of the American economy.

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AP

“The Fed’s decision today reflects our confidence in the U.S. economy,” Federal Reserve Chairman Janet Yellen said Wednesday, noting the recovery “has clearly come a long way, although it is not yet complete.”

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AP

Janet Yellen, Federal Reserve chairwoman, speaks during a news conference Wednesday in Washington following an announcement the Federal Reserve raised its key interest rate by quarter-point, heralding higher lending rates in an economy she said was much sturdier than the one the Fed helped rescue in 2008.

The decision ends an extraordinary seven-year period of near-zero borrowing rates. But the Fed's statement suggested that rates will remain historically low well into the future, saying it expects "only gradual increases."

Wednesday's action conveys the central bank's belief that, 6½ years after the recession ended, the economy has regained enough strength to withstand modestly higher borrowing rates.

"The Fed's decision today reflects our confidence in the U.S. economy," Chairman Janet Yellen said at a news conference. "The economic recovery has clearly come a long way, although it is not yet complete."

The central bank said in a statement that it was lifting its key rate by a quarter-point to a range of 0.25 percent to 0.5 percent.

Stocks went sharply higher after the Fed's decision. The Dow Jones industrial average, which had been up modestly before the announcement, gained 224.18 points, or about 1.3 percent, for the day.

The bond market didn't react much. The yield on the 10-year Treasury note rose slightly to 2.3 percent.

The Fed's low rates were part of extraordinary policies designed to stimulate the U.S. economy in response to the most devastating financial crisis since the Great Depression. The Fed lowered its benchmark federal funds rate to near zero in December 2008, three months after the collapse of investment bank Lehman Brothers Holdings Inc. and 10 months before unemployment in the U.S. reached 10 percent.

Rates on mortgages and car loans aren't expected to rise much soon. The Fed's benchmark rate doesn't directly affect them. Long-term mortgages, for example, tend to track 10-year U.S. Treasury yields, which will likely stay low as long as inflation does and as long as investors keep buying Treasury notes.

But rates on some other loans -- such as credit cards and home-equity credit lines -- will likely rise, though probably only slightly, as long as the Fed's rate increases remain modest.

Shortly after the Fed's announcement, major banks began announcing that they were raising their prime lending rate from 3.25 percent to 3.5 percent. The prime rate is a benchmark for some types of consumer loans, such as home-equity loans. Wells Fargo was the first bank to announce the rate increase.

Among other things, the Fed's low-interest-rate policies have helped jump-start auto sales, which are on track to reach a record 17.5 million this year.

Steven Szakaly, chief economist for the National Automobile Dealers Association, said dealers will press financing companies to keep loan rates low. And competition will spur them to take other steps to keep rates low, such as cutting back on discounts or accepting lower profits.

"The rate squeeze will happen between the dealer and its finance company rather than the dealer and the consumers," Szakaly said. "Consumers won't even feel it."

For months, Yellen and other Fed officials have said they expected any rate changes to be small and gradual. But investors have been looking for further assurances.

Stephen Freedman, senior investment strategist at UBS Wealth Management Americas, said the Fed is "taking off the Band-Aid" because the economy has healed substantially.

"Three or four hikes next year would be, historically speaking, extremely slow and progressive," he said. "The Fed is not going to choke the economy."

Yellen indicated that Wednesday's rate change was partially defensive. If rates stayed near zero, the Fed might not have had the tools to combat a recession.

"We've worried about the fact that with interest rates at zero, we have less scope to respond to negative shocks," she said at the news conference.

When growth struggles, the Fed often cuts rates to help increase the amount of cash flowing through the economy. But if the rates stayed close to zero, the Fed would be unable to cut them or would be forced to have negative rates for the first time in its history.

In an updated economic forecast released with the policy statement, Fed officials predict that their target for the federal funds rate -- the rate at which banks lend funds to each other from reserves kept at Fed banks -- will end next year at slightly above 1 percent. That is in line with the consensus view of economists.

The Fed's action was approved by a vote of 10-0.

The statement struck a generally upbeat tone in its assessment of the economy. It cited "considerable improvement" in the job market. And it expressed more confidence that inflation, which has been running well below the Fed's 2 percent target, would begin rising. It suggested this would happen as the effects of declines in energy and import prices fade and as the job market strengthens further.

In addition to the funds rate, the Fed raised three other rates. It lifted the interest it pays on the reserves that banks hold at the Fed to 0.5 percent from 0.25 percent, and it raised the rate it pays on a type of short-term loan to 0.25 percent from 0.05 percent. The Fed plans to use those two rates to help meet its higher target for the funds rate.

In addition, it announced a quarter-point increase in its discount borrowing rate, to 1 percent from 0.75 percent. This is the rate banks pay when they borrow emergency loans from the central bank. This rate typically moves up in conjunction with the Fed's benchmark rate.

Information for this article was contributed by Martin Crutsinger, Paul Wiseman, Josh Boak and Tom Krisher of The Associated Press; by Binyamin Appelbaum of The New York Times; and by Christopher Condon and Craig Torres of Bloomberg News.

A Section on 12/17/2015

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