Why CD Rates May Move Higher Before the Predicted Fourth Quarter of 2015
The Federal Reserve has been keeping the federal funds rate at near zero percent for over 5 years now. This policy has forced CD rates down to record low levels. The Federal Reserve has stated they plan to keep the fed funds rate at the current level until the unemployment rate falls below 6.5 percent, which the fed believes will happen sometime in the fourth quarter of 2015.
The Federal Open Market Committee had their two day meeting last week and released a statement on economic policy right after the end of the meeting on Friday. There were no surprises in the Fed's meeting minutes on economic policy that would force CD rates higher before Q4 2015, but another report was released that might send rates higher sooner.
April's Employment Situation Summary was released by the Department of Labor which showed the unemployment rate falling 0.1 percent from 7.6 percent to 7.5 percent. The unemployment rate at 7.5 percent puts the rate only 1 percent higher than the point at which the Fed will increase the fed funds rate. A higher fed funds rate will force bank CD rates higher.
In the first four months of 2013, the unemployment rate has fallen 0.4 percent, on average 0.1 percent a month. If the rate continues to fall 0.1 percent a month, the unemployment rate will reach the 6.5 percent in the second quarter of 2014, six quarters before the Fed believes the rate will reach that point.
Another big question is even if the rate hits 6.5 percent sometime in 2014, how much will the Fed increase the fed funds rate? To get back to a "neutral" level in that the fed funds rate neither stimulates nor dampen demand, the Fed will have to increase it to the 1.5 percent to 2 percent range, taking the current inflation rate into consideration.
Beside the unemployment rate, another factor that will determine how fast interest rates move is the rate of inflation. Many economists believe the Fed's purchasing of $85 billion a month in mortgage-backed (MBS) securities and U.S. Treasuries coupled with a zero percent fed funds rate is already fueling inflation.
Much remains to be seen, but I believe rates on interest-bearing assets will move higher sometime in the first six months of 2014 instead of the predicted late 2015. For now, the best CD rates on 12 month certificates of deposit remain at 1.04 percent and 12 month Treasury yields this week remain at 0.11 percent.
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