Fed vice chair in spotlight as markets seek rate hike clues

What once seemed a sure bet — that the Federal Reserve would raise interest rates in September — suddenly appears less certain following a wild week of stock market turbulence.

The market's ride and how the Fed will react provide the backdrop for the annual high-profile economic conference in Jackson Hole, Wyoming. Fed Chair Janet Yellen decided to skip this year's meeting, so Vice Chairman Stanley Fischer is commanding top attention, with investors eagerly parsing his every word.

Fischer's message: Incoming economic data and market developments over the next two weeks will play crucial roles in determining whether the Fed raises interest rates at its September meeting.

In an interview Friday with CNBC, Fischer acknowledged that before the recent market volatility, "there was a pretty strong case" for a rate hike at the Sept. 16-17 meeting, though it wasn't conclusive. Now, the jury is out because the Fed needs to assess the economic impact of events in China and on Wall Street.

But Fischer said Fed officials realize that they need to act before data requires them to hike rates to alleviate inflation.

"When the case is overwhelming, if you wait that long, you will be waiting too long," Fischer said. "There is always uncertainty, and we will just have to recognize that."

Fischer tried to reassure markets, as Yellen has, that when the Fed begins to raise rates, it plans to do so very gradually. The Fed's key rate has been at a range of zero to a quarter-point since late December 2008.

Fischer said the first move would nudge that up by a quarter-point to a range of 0.25 percent to 0.5 percent and then pausing to monitor the impact. He said with that small increase, rates will still be historically low, continuing to provide support to consumer and business borrowers.

"We will be adjusting the knob slightly," he said.

Fischer said his "confidence is pretty high" that low levels of inflation will head toward the Fed's target of 2 percent as temporary effects from a big drop in energy prices fade. A government report Friday showed that the Fed's preferred measure of inflation is up just 1.2 percent over the past 12 months. It has been below 2 percent for the past three years.

Fischer will deliver more comments on inflation in a formal speech to the conference on Saturday.

Other Fed officials who have spoken since the market turmoil hit with force have hinted at a delay. But they haven't ruled out a hike in mid-September.

William Dudley, president of the New York Federal Reserve, helped ignite a Wall Street rally this week when he told reporters that the case for raising rates in September was "less compelling to me" that it had been a few weeks ago, before sudden fears about China's economy upset global markets.

But Dudley added that the notion of a rate hike "could become more compelling by the time of the meeting as we get additional information" about the economy.

Esther George, president of the Kansas City Federal Reserve, which sponsors the Jackson Hole conference, said she was taking a "wait and see" approach.

"We've seen data that suggests the economy is strong enough to act. So we'll see what happens by the September meeting," George, who doesn't have a vote on the Fed's policy committee this year under the committee's rotating system, told Fox Business Network.

George has long argued that the Fed must soon begin raising rates to avoid instability in the markets. She is among officials known as "hawks," who tend to worry that rates kept too low for too long could escalate inflation or fuel asset bubbles.

So far, the hawks have remained in the minority, outnumbered by the Fed's "doves," including Yellen. They typically stress the need to keep job growth strong and to raise inflation closer to the Fed's target.

Both camps have data they can point to support their views. The U.S. economy has been performing well. The government estimated Thursday that the economy grew at a healthy 3.7 percent annual rate in the April-June quarter. And the unemployment rate is at a seven-year low of 5.3 percent.

But doves worry that the economy remains vulnerable to shocks, such as a major slowdown in China. They also point to lower-than-optimal inflation, depressed by a strengthening dollar and shrunken oil prices.

The debate isn't confined to the Fed' s boardroom. This week, two prominent Harvard economists — Martin Feldstein and Lawrence Summers — wrote dueling opinion pieces.

Feldstein wrote in the Wall Street Journal that the market turmoil argued for the Fed to move without delay. Summers, in the Financial Times, urged delay saying a rate hike now "risks tipping some part of the financial system into crisis, with unpredictable and dangerous results."

Many analysts believe with all the new uncertainty, the Fed will be hesitant to raise rates next month.

"It isn't just the market turbulence but global weakness which could raise questions about their targets for inflation and unemployment," said Diane Swonk, chief economist at Mesirow Financial. She said she had pushed back her date for the first hike from September to December.

"There is just too much volatility, too much to be scared of," said David Wyss, an economics professor at Brown University.