Who's raising our rates?
The Federal Open Market Committee, that's who--the most
influential group you've never heard of
Who are these guys, and why are they jacking up the nation's
rent, so to speak, by raising the cost of credit-card, car-loan,
home-mortgage and other debt?
In one sense, last week's stiff interest-rate hike by the Federal
Reserve's little known Federal Open Market Committee was a
no-brainer, given the still sizzling growth of the U.S. economy.
But in another sense, the panel's increase in the so-called
federal-funds rate from 6% to 6.5% marked a spectacular wager on
your future, with your money, by 10 unelected and largely unknown
officials operating behind closed doors. By raising the rate that
underpins most other borrowing costs to its highest level in nine
years, the committee is hoping--make that praying--to cool the
economy and forestall ruinous inflation without jeopardizing the
longest-running expansion in U.S. history.
Such high-stakes crapshoots are routine for the FOMC, a secretive
body whose ability to raise or lower interest rates makes it
perhaps the second most powerful group of appointees in
Washington--behind only the Supreme Court. Led by Federal Reserve
Chairman Alan Greenspan--the one member with star wattage--the
panel gathers eight times a year around a 27-ft. 11-in. black
granite and mahogany table to issue diktats that are feverishly
parsed on Wall Street and around the world. The members are the
seven Fed governors, plus five of the 12 regional Federal Reserve
Bank presidents at a time. (Two governors' seats are currently
vacant; a Ph.D. in economics will help if you'd like to apply.)
The remaining bank chiefs are nonvoting but vocal participants.
While the press tends to treat Greenspan as the sole author of
interest-rate policies, insiders and Fed watchers know that is
hardly the case. Greenspan, actually considered a moderate among
the group's inflation hawks and doves, is clearly first among
equals and exerts a considerable influence over the FOMC. But as
a careful consensus builder, he is also at pains to stake out
positions that the rest of the committee can live with--and
thereby avoid any risk of being embarrassed by a close vote.
"There is a limit to how far the chairman's influence can be
extended," Fed governor Laurence Meyer recently explained. "A
good chairman sometimes has to lead the FOMC by following the
consensus within the committee."
What confronted this increasingly hawkish panel last week was a
maverick economy that simply refuses to do what it's told. The
Fed had raised rates a quarter of a percent--or 25 basis points,
in the lingo--no fewer than five times since last June, with
little tangible impact on either GDP growth or unemployment.
Joblessness stood at just 3.9% in April, its lowest level in
three decades. This persistent lack of idleness sent shivers up
the spines of FOMC members, who fear that tight labor markets
will lead to inflationary wage increases. To make matters worse,
from a Fed perspective, the economy expanded at a brisk 5.4% clip
in the recent first quarter, well above the presumed 3.5% to 4%
"speed limit" that many economists have viewed as the upper range
for growth without inflation.
"There is real frustration within the FOMC," says Fed watcher
David Jones of the Aubrey G. Lanston investment firm. "Borrowing
costs have been going up for more than a year, and yet no one
seems to care. The Fed is asking 'What does it take to get the
consumer's attention?'" The FOMC's answer: its first
50-basis-point increase in the federal-funds rate--the interest
that banks charge one another for overnight loans--in five years,
plus a stern warning that you can expect another boost when the
committee meets again next month. (What should you do about your
finances? See following story.)
Ironically, the Fed's get-tough stance came just hours after a
Commerce Department report showed that the "core" rate of
inflation (the Consumer Price Index with volatile food and energy
prices omitted) had fallen to an annual rate of 2.4% in April,
down from 4.8% in March. That led Senator Tom Harkin, an Iowa
Democrat, to denounce the FOMC increase as "clearly excessive" at
a time when "accelerating inflation is not apparent." If this
continues, says Harkin, "our economy is going to bleed to death."
In other words, the Democrats need a slowing economy in an
election year like they do another Monica.
Last week's hawkish increase marked a clear departure from the
gradualist policies that Greenspan had championed for years.
"Three years ago," recalls former Fed vice chairman Alice Rivlin,
"some [FOMC] members were worried about the economy overheating.
But I wasn't, and neither was Greenspan." Both argued that
technology was making workers more productive and stifling
inflation. The FOMC thus opted for a string of small rate hikes
that became a hallmark of Greenspan's cautious approach to
But this spring the chairman reset his course, and other doves on
the panel found themselves in full retreat. The tough new
thinking was reinforced by the arrival of voting members like
Jerry Jordan, president of the Federal Reserve Bank of Cleveland
(Ohio). "There is [agreement] right now that the economy is
growing too rapidly," Rivlin says. The moral: "If you step on the
brakes a little and the car doesn't slow down, then you need to
step on them a bit harder the next time."
The stubbornly strong growth convinced Robert McTeer, president
of the Federal Reserve Bank of Dallas, that larger rate increases
may be appropriate this year. McTeer, whose voting term expired
last December, had been the only panelist to dissent from Fed
tightening in 1999. "I believed, unlike some others, that
productivity gains were keeping inflation sufficiently in check,"
McTeer says. "But as we moved into 2000, the signals from the
economy were fairly clear cut. There was little question in
anyone's mind that inflationary pressures were building."
Nor was there much doubt on Wall Street about what the Fed panel
was planning. Just two weeks ago, Robert Parry, the president of
the Federal Reserve Bank of San Francisco and a voting member,
strongly hinted at the outcome by declaring in a speech "We have
moved cautiously, but that doesn't mean we only have a single
note to play."
The curtain went up promptly at 9 a.m. last Tuesday when
Greenspan stepped through the doorway that connects his office to
the boardroom to signal the start of the FOMC meeting. (The room
sports a large map of the U.S. at one end and, at the other, a
fireplace with a bronze sculpture of Demeter, the Greek goddess
of agriculture and fertility.) Instead of taking his usual place
at the head of the table, Greenspan pulled out a chair in the
middle--a move that highlighted his desire to forge a consensus
but set off a round of musical chairs to preserve the customary
seating plan in relation to the chairman.
The meeting commenced, as all do, with the approval of the
minutes of the last gathering--this is a government bureaucracy,
after all--and some staff reports. Then a "go-round" took place in
which the presidents and Fed governors discussed the economic
outlook, each having had access to two briefing books bulging
with fresh data and policy choices. Then it was Greenspan's turn,
the meeting's moment of truth, when he delivers his interest-rate
recommendation and the rationale for it. "Greenspan always has
some striking insight, or some number that no one else has ever
heard of before," notes Fed watcher Jones.
The complete transcript of what the chairman and other FOMC
members said won't be released for five years, yet Fed watchers
have little doubt that most speakers expressed exasperation at
the refusal of the expansion to knuckle under to past rate
increases and stressed their determination to try again.
Nor did students of the Fed see any sign of dissent from the
doves. "In the old days," says economist Kevin Flanagan of Morgan
Stanley Dean Witter, "there was a debate over who was an
influential hawk and who an influential dove." But today,
Flanagan notes, any policy disagreements tend to vanish into
Greenspan's carefully nurtured consensus. Concurs Fed governor
Meyer, who has a reputation as a hawk's hawk on inflation: "Many
members will voice some disagreement with the chairman's view in
the go-rounds. But many of those will vote with the chairman in
Having done so, the most powerful monetary movers and shakers on
the planet invariably line up for an informal boardroom lunch.
Reaching for paper plates and plasticware, the FOMC members help
themselves to a buffet that last week featured cold cuts, soft
drinks, salads and chocolate-chip cookies--a special favorite of
many members. Then they headed back to their offices to watch
Wall Street's reaction, while bankers across the country
adjusted the loan-rate signs in their windows. --Reported by
Bernard Baumohl and Eric Roston/New York and Adam
Federal Reserve Board Chairman
A single-minded inflation fighter, in recent years the Fed boss
has realized that advances in technology let the economy grow
faster without a rise in inflation
President of the Atlanta Federal Reserve Bank
Spent most of his career on the operations side of the Fed. Not a
macroeconomic expert, so he's disposed to go along with what his
President of the New York Federal Reserve Bank
A former private banker in Chicago, he is not inclined to rush
through higher interest rates. His views are closely tied to
A onetime economics professor at Michigan, he is on the dovish
side when it comes to interest-rate policy. A low-key
personality, he usually sides with Greenspan
FOOT ON THE BRAKE
EDWARD KELLEY JR.
The former Houston businessman has been a governor since 1987.
He's more inclined than Greenspan to call for higher rates, but
he is not likely to vote against the chairman
President of San Francisco Federal Reserve Bank
A former Fed governor, he buys the idea that computers permit
faster growth with less risk of inflation--perhaps because his
district includes Silicon Valley
ROGER FERGUSON JR.
Vice Chairman of the Federal Reserve Board
A lawyer with a Ph.D. in economics, he was a McKinsey consultant
before moving to the Fed in 1997; touted as a possible successor
to Greenspan as chairman
TWO FEET ON THE BRAKE
A leading economic forecaster and a former professor at
Washington University in St. Louis, Mo., he is known for
marshaling the case for tight money with meticulous care
J. ALFRED BROADDUS JR.
President of the Richmond (Va.) Federal Reserve Bank
A strict monetarist, this career Fed official is invariably a
leader among those who call for tight control of the money supply
to boost controlled growth
President of Cleveland (Ohio) Federal Reserve Bank
Often dissented with easing rates during a previous term on the
FOMC; former chief economist for First Interstate Bancorp in Los