Federal Reserve Expected to Raise Rates

By Nick TimiraosFeaturesDow Jones Newswires

The Federal Reserve is likely to raise short-term interest rates by a quarter percentage point after its two-day policy meeting concludes Wednesday, the fifth such increase since the Fed began raising rates from near zero two years ago. Officials also will release new projections for unemployment, inflation, economic growth and interest rates. The central bank will release its statement and the forecasts at 2 p.m. EST, and Fed Chairwoman Janet Yellen will take questions from the press at 2:30 p.m. Here's what to watch:

Taxing Dilemmas

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House and Senate lawmakers have moved rapidly to pass tax-cut legislation that could add $1.4 trillion to budget deficits over a 10-year period before factoring in any additional revenue from stronger economic growth. Since the two chambers haven't reconciled their separate bills yet, Fed officials might not have enough information to forecast how the economy will respond. But they probably have enough information to expect more fiscal stimulus than they did in projections released earlier this year.

Their new economic projections will show whether they expect faster economic growth, higher inflation, lower unemployment or a more aggressive path of interest-rate increases as a result. Ms. Yellen likely will field questions on the issue at her press conference.

Inflation: The Transitory Story?

The Fed is likely to announce it will raise its benchmark rate to a range between 1.25% and 1.5% despite little evidence of a pickup in inflation, which softened unexpectedly earlier this year. Annual inflation nosed above the Fed's 2% target in February, but was just 1.6% in October by the Fed's preferred gauge.

Ms. Yellen has said she expects soft inflation to prove temporary, particularly given continued declines in the unemployment rate and an economy growing at an annual rate between 2.5% and 3%. Officials' new projections will show whether they still expect inflation to hit 2% by 2019, as they did in September. And Ms. Yellen can expound on the inflation outlook at her press conference.

Watch also to see if Minneapolis Fed President Neel Kashkari again votes against the rate increase because of low inflation, and whether anyone else joins him in dissent.

Financial Conditions

While soft inflation means some Fed officials want to go slower on rate increases, easier financial conditions and concerns about rising asset values provide ammunition for those who want to keep up -- or pick up -- the pace. Each time the Fed has moved to make monetary policy a little less easy this year, including by starting to shrink its big bond portfolio, long-term rates have stayed low or declined while stock prices have moved higher.

Ms. Yellen in the past has put more emphasis on labor-market indicators, such as the unemployment rate, in arguing for the Fed to gradually reverse its postcrisis stimulus measures. Watch what Ms. Yellen says about financial stability risks and the implications for the path of rates.

How Far From Neutral

With another rate increase, the Fed would be just a few more moves away from neutral, or the level at which it is neither stimulating or slowing growth. Fed officials expect this neutral level to rise in the coming years, and one of the big questions at this meeting concerns the path of rates in 2018 and 2019. With the Fed's portfolio slowly shrinking, so-called policy normalization has taken several steps forward this year. Watch the new projections to see how much officials believe interest rates need to rise from here and over what period of time.

Parting Reflections

President Donald Trump has nominated Fed governor Jerome Powell to succeed Ms. Yellen in February, breaking with recent precedent: The previous three Fed chairmen were all reappointed by presidents from the opposite party that put them in office.

The central bank is set to gain several new policy makers next year. The seven-member Washington-based board of governors now has three vacancies, before Ms. Yellen's planned departure in February, and the New York and Richmond reserve banks will get new presidents.

Ms. Yellen's press conference Wednesday is her last such scheduled appearance before her term ends Feb. 3, and she could have an opportunity to reflect on her extensive experience at the central bank as chairwoman, vice chairwoman, president of the San Francisco Fed, a governor and a staff economist. With the unemployment rate at 4.1% in November, Ms. Yellen is set to leave the Fed at a time when the thorniest policy issues involve how to keep the economy on an even keel and how to prepare for the next downturn.

Write to Nick Timiraos at nick.timiraos@wsj.com

(END) Dow Jones Newswires

December 13, 2017 05:14 ET (10:14 GMT)