Fed Doubts Grow on 2015 Rate Hike
Weakness in retail sales, inflation data raises concerns about economic Outlook
By Jon Hilsenrath and Anna Louie Sussman
The chances of a Federal Reserve interest-rate increase in 2015 are diminishing amid new signs of anemic economic activity, a disappointing development for central bank officials who have been hoping to move this year after a prolonged period of easy-money policies.
Lackluster readings on consumer spending, inflation and jobs have virtually eliminated the chances of a move this month. Already, two Fed governors expressed doubts this week about whether the timing will be right this year, and the recent trove of data hasn’t reassured top officials about the economic outlook.
The Commerce Department on Wednesday reported seasonally adjusted retail sales rose just 0.1% in September, and actually fell from August’s levels once car sales were stripped out. The Labor Department also reported producer prices—an indication of inflation at the wholesale level—fell 0.5% in September and were down 1.1% from a year earlier, the largest 12-month decline during this expansion.
The Fed has two scheduled policy meetings left this year, in late October and mid-December. Futures-markets traders now see almost no chance of a rate increase this month and a 1-in-3 probability of a move by year-end.
Fed officials have long said the timing of the first rate increase would be dependent on incoming economic data. Consumer price inflation has been running below the Fed’s 2% objective for more than three years, and policy makers want to be confident inflation is heading back up before they start lifting rates. Consumer spending makes up about two-thirds of total demand for goods and services produced in the U.S, and retail sales are an important indicator of the economy’s underlying vigor.
While an October move is highly unlikely, the Fed could still decide to push rates up this year, particularly if the labor market shows renewed signs of vigor before its Dec. 15-16 policy meeting, or if signs emerge that wages or inflation are moving up from low levels.
Still, the soft retail and inflation reports won’t inspire much confidence among Fed officials, especially a couple of weeks after the Labor Department reported the pace of hiring slowed in September and was weaker than first thought in July and August. U.S. exports are also now on track to decline this year for the first time since the recession.
The central bank pushed short-term interest rates to near zero in December 2008 and has kept them there ever since in an effort to boost borrowing, spending and investment. Officials came into the year thinking the economy was finally strong enough for a modest rate increase, but they have been serially disappointed about growth and in turn have delayed moving on rate increases. Early in the year, many officials believed they would have raised rates by June.
Fed officials have given up on expectations that growth would accelerate in 2015, as they hoped would happen at the beginning of the year. Their hope now is that a healthy domestic economy can withstand slowing overseas economies and turbulent financial markets and keep growing at a fast enough pace to modestly reduce unemployment further.
Some officials have signaled unease in the past few days with the central bank’s projection that rates would be raised this year. At their September policy meeting, when the Fed delayed a rate increase because of worries about overseas and market turbulence, 13 of 17 Fed officials said they still expected to move before year-end. Fed Chairwoman Janet Yellen has since said she was among those 13.
Ms. Yellen and others have blamed weak inflation on temporary factors, including depressed energy and import prices and they expect to see those influences wane.
Two Fed governors this week signaled unease not only about the economic outlook, but also with the framework Ms. Yellen has laid out for why rates should rise. The chairwoman has said she expects slack in the economy to diminish as the unemployment rate falls, a precursor to inflation down the road.
The governors, Lael Brainard and Daniel Tarullo, said falling unemployment isn’t a great indicator of future inflation and thus not a sound basis for raising rates. Ms. Yellen herself, in a speech in Amherst, Mass., last month, expressed sympathy with their skepticism, a sign of anxiety at the highest levels of the Fed about the decision.
Ms. Brainard, in a speech earlier this week, said the central bank should take a stance of “waiting to see if the risks to the outlook diminish.” Mr. Tarullo echoed that view Tuesday in an interview on CNBC, saying “right now my expectation is—given where I think the economy would go—I wouldn’t expect it would be appropriate to raise rates” this year.
The comments by the Washington-based governors also reflect internal divisions; they were striking back at regional Fed bank presidents, who tend to speak out more frequently and have been among the most outspoken advocates for rate increases this year.
“Real interest rates need to be higher than they are now,” Richmond Fed President Jeffrey Lacker told Fox Business Wednesday.
Ms. Yellen—in the position of having to balance these competing internal views—has repeatedly said the Fed’s expectations for the economy will be based on the incoming data, but recent reports suggest the data aren’t cooperating.
In September, the Fed cited weak growth abroad for its decision to delay a rate increase. China, Indonesia, Germany, Singapore and the U.K. this week have all reported different signs of weakening inflation or demand.
In U.S. futures markets, traders put just a 2.3% probability on a Fed rate increase at the Oct. 27-28 policy meeting, according to the Chicago Mercantile Exchange. They put a 33% chance on a move in December.
This could turn with a new batch of stronger economic data. A few bright spots held in the retail-sales report: U.S. consumers shelled out 0.9% more on clothing and accessories in September than they did in August, and spent 0.7% more at restaurants and bars than the prior month. And auto sales were up 1.8% in September from August. Excluding gasoline, sales were up 4.9% in September, in line with the pace of the past two years.
A survey of businesses known as the beige book released by the Fed on Wednesday said “business contacts across the nation were generally optimistic about the near-term outlook.”
Scott Wise, president and chief executive of Scotty’s Brewhouse, a chain of roughly a dozen sports bars in Indiana, said business at his locations is up anywhere from 5% to 15% from the previous year.
Recent turmoil in financial markets and slowing job gains haven’t yet made their impact felt, he said.
“You’re not going to see a direct correlation between ‘Oh my god, the stock market is down 500 points’ and ‘We’re not going out to dinner tonight,’ ” he said. “You’d have to see something more sustained before people start to tighten up a bit.”
But comments from some Fed officials in recent days show that at this point the central bank will need more convincing if it is to move rates up this year.
“The softness of September’s retail sales figures supports our view that the Fed probably isn’t going to hike interest rates until early next year,” said Paul Ashworth, chief U.S. economist at Capital Economics.
The Federal Reserve Bank of Atlanta estimates the economy expanded at an anemic annual rate of 0.9% in the third quarter. Fed officials have been expecting headwinds from overseas to weigh on exports, but they are expecting vigor in the domestic economy to outweigh those forces and keep the expansion going at a modest pace that keeps reducing unemployment. The jobless rate was 5.1% in October.