Fed Seen Raising Rates Midyear Even With Low Inflation

Unemployment Drops

The U.S. unemployment rate stood at 5.6 percent in December, close to central bankers’ 5.2 percent to 5.5 percent estimate for full employment.

Oil prices have fallen about 20 percent since Fed officials last met Dec. 17, and economists are marking up their estimates for growth this year as lower gasoline prices leave households with more money to spend on other things.

A separate survey shows forecasters expect U.S. economic growth of 3.2 percent this year, according to the median estimate, compared with 2.9 percent estimated last month.

At the same time, market signals are flashing warnings about the pace of growth and inflation around the world. Yields on U.S. government 10-year notes have fallen to 1.83 percent from 2.14 percent since the FOMC last met.

Yields on longer-term government debt are below 1 percent in France, Germany, Sweden and Japan. A market-based measure of expectations for inflation over the five years starting in 2020 has declined to 1.83 percent from 1.92 percent when Fed officials last met.

Low Inflation

U.S. central bankers in December forecast an expansion of 2.6 percent to 3 percent this year with inflation rising just 1 percent to 1.6 percent as measured by the personal consumption expenditures price index.

Yellen said at her press conference following the December meeting that central bankers would have to be “reasonably confident” that inflation would move back to their 2 percent target over time to begin raising interest rates. She also said there would be no move for at least the next couple of meetings, or not before late-April.

Some 66 percent, or 35 of 53 economists in the survey, said they didn’t expect the Fed’s preferred measure of inflation, the personal consumption expenditures price index, to show three consecutive readings of 2 percent or higher until the second quarter of 2016 or later.

Under Target

The price index rose 1.2 percent in December from a year earlier and has been under the Fed’s 2 percent target for 31 straight months.

Eventually, Fed officials will have to acknowledge that inflation is too low and will that as a reason to delay liftoff, said Robert Brusca, president of Fact & Opinion Economics in New York, among the 29 percent of economists who held that view.

“Yellen is going to do hopscotch from one indicator to another as she starts to emphasize inflation,” said Brusca.

“There are demographic factors and there are technology factors and there are international competitiveness factors that are responsible for wages being as weak as they are,” Brusca added. “You aren’t going to change the demographics and you aren’t going to change the technology and the international factors are still in place.”

Economists were split on the pace of tightening.

Some 34 percent said the benchmark lending rate would be between 0.75 percent and 1 percent at the end of 2015, while 32 percent said it would be between 0.5 and 0.75 percent.