Federal Reserve Doesnt Raise Rates, Pointing to Disappointing Business Investment and Net Exports

By Markets Fool.com

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The Federal Reserve issued its latest monetary policy guidance on Wednesday, concluding that it's still too early to begin raising interest rates.

The central bank noted that economic activity is expanding at a moderate pace, fueled by an increase in household spending and continued improvement in the housing market. However, these positive developments were accompanied by disappointing trends in businesses' willingness to invest and in tepid net exports.

As a result, the Fed reaffirmed its view that the current level of interest rates remains appropriate.

Analysts and commentators have long expected the central bank to begin raising interest rates this year. The benchmark Federal funds rate has been at historically low levels since the financial crisis of 2008-09.

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Both the level and ongoing duration of low interest rates are unprecedented. Since the mid-1950s, the Fed funds rate has averaged just over 5%. Today, it sits at a mere 13 basis points, or 0.13%.

This has been great for home buyers and current mortgagees who have been able to lock in unprecedentedly low rates on new or refinanced home loans. But it's had the opposite impact on banks and other types of lenders, with revenues at JPMorgan Chase and Bank of America , among others, down by more than $1 billion a quarter relative to a more normalized interest rate environment.

In Bank of America's latest 10-Q, the nation's second biggest bank by assets projects that it would earn $4.5 billion more a year in net interest income if both short- and long-term rates increase by 100 basis points, or 1%. JPMorgan Chase offered a similar forecast earlier this year, noting that it will earn $7.5 billion more before taxes if short-term rates normalize around 2.25%.

The Fed has long hinted that it would raise rates at some point this year, helping to fuel shares of both Bank of America and JPMorgan Chase, among other major lenders. "I expect that it will be appropriate at some point later this year to take the first step to raise the federal-funds rate and thus begin normalizing monetary policy," Chairwoman Janet Yellen said at the beginning of last month.

But events in Europe and extreme market volatility in China seem to be tempering the central bank's enthusiasm -- particularly if it may later be deemed premature.

A seminal moment in the Fed's history was its 1937 decision to raise interest rates based on the belief that the Great Depression was finally in the rearview mirror. But because it wasn't, the move plunged the economy back into a downward spiral that only ended thanks to the massive fiscal stimulus associated with World War II.

Ultimately, the deciding factor will be how economic data weighs on the Fed's dual mandate to balance maximum employment, defined by the Fed as an unemployment rate between 5% and 5.2%, against price stability, namely an annual inflation rate of 2%.

As you can see in the chart above, the issue right now concerns inflation, which continues to flirt with the 0% threshold, below which consumer prices contract and debt burdens become more onerous in a dangerous economic phenomenon known as deflation.

The net result is that banks like JPMorgan Chase and Bank of America, as well as other investors, that have waited with baited breath for rates to rise will simply have to wait longer.

The article Federal Reserve Doesnt Raise Rates, Pointing to Disappointing Business Investment and Net Exports originally appeared on Fool.com.

John Maxfield has no position in any stocks mentioned. The Motley Fool recommends Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.