US policymaker calls for December rate rise

Now that the US is closing in on full employment and inflation is likely to rise to target levels, the “next step” should be to start gradually increasing rates, a top US central banker said at the weekend.

“I do think it makes sense to gradually remove the policy of accommodation that helped get the economy to where we are,” San Francisco Federal Reserve Bank President John Williams told the Arizona Council on Economic Education.

The comments suggest that Mr Williams, a centrist policymaker who was Fed Chair, Janet Yellen’s, chief researcher when she had his job before moving to Washington DC, is leaning towards support of a December rate hike.

Asked afterward by a reporter whether that is so, Mr Williams declined to say, adding that he expects “a lot of data” between now and then. “I am going to wait and see on that,” he said.

The Fed has kept interest rates near zero for almost seven years, and the central bank last month said it would consider a rate increase at its December 15-16 meeting, the last of the year.

The explicit nod to the Fed’s next meeting sent traders scrambling to boost bets on a December move, bets that only got bigger after a government report on Friday showed the economy added many more jobs than expected in October.

A Reuters poll of top bond dealers also showed a growing number expected borrowing costs to go up next month, with 15 of 17 looking for an increase.

Inflation has languished below the Fed’s goal for years, prompting a few Fed policymakers to still favour waiting on a rate increase until there is better evidence that prices are indeed firming.

On Saturday, Mr Williams said he believes that factors holding inflation down, including weak oil prices and a strong dollar, should soon ebb and allow inflation to bounce back.

Beginning rate hikes sooner than later would allow a “smoother, more gradual process of policy normalisation,” Mr Williams said. The Fed will likely need to raise rates more slowly than the last time it tightened policy in 2004-2006, because of persistent headwinds holding back growth, he told reporters afterward.

Asked how slowly, Mr Williams said investors could draw inferences from the Fed’s quarterly economic projections. Raising rates will send a positive signal about the economy and could spur some homebuying that had been deferred, he said.

“I do think if we raise interest rates in the context of an improving economy, a healthy economy, it does send a positive signal,” Mr Williams said.

He added that markets have lost their “muscle memory” for anticipating moves by the Federal Reserve, but will relearn how to take cues from economic data and central bankers’ forecasts once US interest-rate rises get underway.

Before the Fed’s October meeting, many investors had thought it unlikely it would raise rates at all this year, even though most Fed officials themselves thought they would. The October statement inserted a reference to a possible rate increase at “next meeting,” jolting markets into repricing the possibility of a December rate rise.

Once rates start to go up, the Fed’s main communications tool for guiding investors on what to expect next will be Fed officials’ economic forecasts, published quarterly, Mr Williams said.