Rates Go Up a Quarter-Point to 5%

By Sue Kirchhoff

WASHINGTON — The Federal Reserve raised interest rates Wednesday by a quarter-point to 5% — the highest level in five years — and said more moves were possible, though dependent on the direction of the economy.

In a statement that economists said gave flexibility to either pause or press on, the Fed’s policymaking Federal Open Market Committee said growth had been “quite strong” but should slow to a more sustainable pace as housing gradually cools and the economy absorbs high energy prices and previous rate increases.

The central bank said inflation had risen only modestly, despite rising energy and commodity prices. But it added that those elevated costs, along with the chance of continued strong growth, posed potential inflation pressures.

“The Committee judges that some further policy firming may yet be needed to address inflation risks but emphasizes that the extent and timing of any such firming will depend importantly on the evolution of the economic outlook,” the Fed said.

Wednesday’s action marked the 16th quarter-point increase since June 2004, when the Fed’s target for a key short-term rate was at a nearly four-decade low of 1%. The Fed is trying to bring rates to a level that will tamp down inflation without choking off growth.

While the move was expected, a big question remains about the outlook for the next meeting, June 28-29.

Fed Chairman Ben Bernanke told Congress last month the Fed might pause at some point, even if inflation remained a potential threat, to assess conditions. He stressed that a pause should not be seen as a full stop. Some Fed officials worry the central bank could push rates too high, according to minutes of the March 28 meeting.

PNC Bank economists in a client advisory said Wednesday’s statement meant the Fed had “opened the door for a pause, but this does not necessarily mean the (Fed) will go through that door at their June meeting.”

Ian Shepherdson at High Frequency Economics said the Fed seemed to have shifted from a position of raising rates unless economic data were very weak to holding pat unless data are strong.

While Shepherdson sees a June pause, economists at Bear Stearns and other firms expect an increase.

Commercial banks Wednesday raised the prime rate — used in setting many consumer and business loans — to 8% from 7.75%. The stock market initially fell on the Fed statement, but the Dow Jones industrial average eked out a slight gain, up 2.88 points to 11,642.65.

The Fed must balance disparate data. The economy grew at a strong 4.8% pace in the first quarter, while core inflation, excluding food and energy, is 2%, the top of the Fed’s comfort range. April job growth was weaker than expected.

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