The central bank announced that its policy-making committee voted to increase a key benchmark rate from 5.25 percent to 5.5 percent. The panel decided to increase the federal funds rate, which is charged on overnight loans between banks. It's been unchanged for a year and was last increased on Feb. 1, 1995.
There was no change today in the discount rate, which the Fed charges on its own loans. It stands at 5 percent.
Today's move by the Fed quickly translated into an increase in the prime rate charged banks' best business customers. Banc One of Columbus, Ohio, the nation's ninth largest bank, was the first to announce an increase from 8.25 percent to 8.5 percent. Rates charged millions of consumers and businesses are linked to the prime. Other banks were expected to follow.
In a statement explaining its reasoning, the central bank's Federal Open Market Committee said the interest-rate increase "is viewed as a prudent step that affords greater assurance of prolonging the current economic expansion by sustaining the existing low inflation environment."
Economists said the Fed is acting pre-emptively, hoping to squelch any increase in inflation before it occurs. They had widely anticipated the increase, based on Fed Chairman Alan Greenspan's recent public comments.
"The economy has enough momentum that it's going to take several more 25-basis-point increases in order to slow it down," said Roseanne Cahn, an economist at CS First Boston in New York. "On May 20 we'll see another 25 basis-point hike," she predicted.
Ever since Greenspan started telegraphing three months ago "the importance of acting promptly -- ideally preemptively -- to keep inflation low," the bond market has pushed the yield on 30-year Treasury bills toward the 7 percent mark.
"Some of the damage has already been done to consumers. They're already seeing higher mortgage rates and a lot of home buyers have rushed to lock them in in the last few weeks in anticipation of Fed action," said chief economist David Lereah of the Mortgage Bankers Association.
Today's quarter percentage point increase could lock out 100,000 would-be homeowners, he estimated, while the third of existing mortgage holders with adjustable rate loans will feel the pinch in their annual home-loan adjustment.
While a Fed rate increase could amount to a few dollars a month more on a car loan or credit card bill, the quarter point increase could mean an extra $7,000 over the 30-year life of an adjustable rate mortgage.
But that shouldn't hurt home sales in Hawaii any more than they have already been hurt by the poor economy, said James Schuler, president and chief executive of home builder Schuler Homes Inc.
"Interest rates are not the reason people aren't buying," Schuler said. Mortgage rates have already gone up in anticipation of the Fed move, Schuler said.
Besides, he said, his company doesn't charge standard rates. Schuler Homes pays points to the lenders to get lower than standard rates, he said.
Still, automobile prices could be affected here, said Eric Miyasaki, chief executive of Nissan Motor Corp. in Hawaii.
"It impacts us in two ways. The carrying cost of the vehicles goes up because much of our inventory financing is pegged to the prime," he said. Banks are expected to raise their prime lending rate to match the Fed increase.
Consumer loan rates also increase when short-term interest rates rise, he said.
But one Hawaii economist agreed with some of his national counterparts that there won't be much overall impact from today's quarter-point increase because the market was expecting it.
"That's not a big increase. This has been expected, more so than most Fed actions," said Leroy Laney, chief economist at First Hawaiian Bank. "This was well discounted in the markets."