Federal Reserve Suggests Near-Zero Interest Rates Are Here To Stay For The Long Haul

At its final meeting prior to the U.S. presidential election, the Federal Reserve kept its key federal funds rate unchanged at a range of between zero and 0.25%.

The Federal Open Market Committee, or FOMC, said it expects it will be “appropriate to maintain this target range until labor market conditions have reached levels consistent with the committee's assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time.”

The FOMC also said it will keep buying Treasury securities and agency mortgage-backed securities at least at the current pace to “sustain smooth market functioning and help foster accommodative financial conditions.”

“The COVID-19 pandemic is causing tremendous human and economic hardship across the United States and around the world,” the central bank said in its post-meeting statement. “Economic activity and employment have picked up in recent months but remain well below their levels at the beginning of the year. Weaker demand and significantly lower oil prices are holding down consumer price inflation.”

The Fed also said the path of the economy will depend significantly on the course of the virus. “The ongoing public health crisis will continue to weigh on economic activity, employment, and inflation in the near term, and poses considerable risks to the economic outlook over the medium term,” the Fed added.

FOMC noted two members voted against Wednesday’s policy decision: Robert S. Kaplan, president of the Dallas Fed, and Neel Kashkari, president of the Minneapolis Fed.

Last month, the Fed introduced a new policy whereby it would allow inflation to exceed its 2% target for a period of time without necessarily enacting interest rate hikes.

Inflation has consistently fallen well below the Fed’s target since the financial crisis of 2008 and is now running at about 1.3%.

Greg McBride, chief financial analyst at Bankrate, commented that the Fed has upgraded its expectations for economic growth and employment, forecast higher inflation than they did in June, and also suggested interest rates will stay at their current level through 2023.

“The Fed aims to get inflation over 2% for a period of time, and doesn’t plan to raise rates until that and maximum employment are achieved,” McBride stated. “In other words, get used to the low rates because they are here to stay. Low interest rates are candy for stock market investors and the Fed just set the whole bucket of goodies on the front porch. While the economy needs the stimulus of low rates, this is also the way asset bubbles get inflated and one day we’ll pay the price for the sugar high.”

Danielle DiMartino Booth, CEO and chief strategist of Quill Intelligence in Dallas, and a former advisor to the president of the Dallas Fed, said the Federal Reserve's pledge to keep interest rates at the zero bound for the next few years is at risk of being overshadowed by the failure of Congress to pass more fiscal stimulus.

“While this is the last FOMC meeting before the November election, Fed policy has been about maintaining stability in the credit markets, not about helping President Trump politically,” she said. “Investors should be more cognizant of this, as it is highly unlikely that [Fed Chairman Jerome] Powell would condone buying stocks before Election Day even if markets do correct.”

Booth further commented that the Fed must thread a narrative needle.

“Powell has the obligation to talk up the economy and its amazing recovery while he implicitly pleads [with] Congress to pass a massive stimulus bill the Fed in turn monetizes because it’s failing on its second mandate to maximize employment with nearly 30 million workers collecting unemployment benefits in some form,” she noted. “That’s quite the tricky task -- to communicate that the U.S. economy is strong enough to stand on its own and at the same time so weak that it needs fiscal stimulus.”

Booth also said that many of the tools at the Fed’s disposal -- Main Street Lending Facility, for one -- have failed to help the Fed uphold its mandate to maximize employment.

“The one tool that does seem to work is quantitative easing, which the Fed can more easily conduct if the Treasury has to issue trillions more in debt to pay for additional deficit spending,” she observed. “The Fed is saying it will let inflation run hot to provide more flexibility to print money for longer than it did after the financial crisis. With nearly 30 million collecting unemployment benefits, the greater risk is deflation.”

McBride also said by essentially de-emphasizing inflation in favor of maximizing employment, the Fed has provided good news for borrowers.

“It means low rates are here to stay,” he explained. “But savers and retirees have gotten their feet stomped on when the Fed cut rates to zero, and now been kicked in the shin by saying they won’t be in a hurry to corral inflation when it materializes.

For homeowners that have been on the fence about refinancing, now is the time to act to capitalize on record low mortgage rates and evade the forthcoming 0.5% refinance fee on Fannie Mae and Freddie Mac loans, McBride recommended.

“With near-zero rates and aggressive asset purchases, Jerome Powell has done what he can to stop economic freefall,” said Kerstin Braun, president of Stenn International, an international provider of trade financing headquartered in the U.K. “However, the U.S. economy is crying out for fiscal stimulus given how uneven the pandemic's impact has been across a whole range of sectors – the economic rebound simply cannot be wholly organic.”

Braun added: “Manufacturing output is still slower than expected and any sector relying on consumer football will continue to struggle until a vaccine is available. The silver lining is that housing and technology have returned to growth mode, underpinned by the reopening of retail, so this [points to] the beginning of a return to normality. However, there is a bumpy road ahead in [the fourth quarter] – social unrest, the climax to a divisive U.S. election campaign and global trade tensions are all still fixed in the consumer psyche.”