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Top Banks Hike Prime Rate by .25 Point to 8%

May 02, 1987|JOHN M. BRODER | Times Staff Writer

Acting on cue from the Federal Reserve Board, major U.S. banks on Friday raised their prime lending rate by a quarter point to 8%, the second such increase in a month.

The move reflects Fed action this week to force up a variety of interest rates. Federal Reserve Chairman Paul A. Volcker acknowledged Thursday that the government had been nudging interest rates higher in an effort to defend the faltering dollar and slow a troubling rise in inflation.

It is hoped that higher U.S. interest rates will attract foreign investors and strengthen the value of the dollar, which has been hitting new post-war lows against the Japanese yen almost daily. Economists warned, however, that the policy risks choking off U.S. economic growth.

Latest Signals

The Fed action and the banks' reaction in raising the prime rate were the latest sign that U.S. interest rates have begun a general rise after falling steadily since September, 1984, when the prime was 13%. In March, bank rates began to move up when banks increased the prime rate to 7.75% from 7.5%.

The largest U.S. bank, Citibank, was the first to boost its rate. Other banks around the country, including all of California's largest financial institutions, quickly followed. The prime rate is used as a benchmark for a variety of business loans.

The Fed policy change, which Volcker described as a "snugging"--or gradual tightening--of monetary policy, also represents part of a U.S.-Japanese agreement to try to close the yawning trade gap between the two countries. New figures released Friday showed that Japan's trade surplus with the United States grew to a record $52 billion in the Japanese fiscal year ended March 31, up 20.1% from the previous year.

The size of the trade surplus figure is exaggerated when stated in dollars, however, because it does not reflect the dramatic decline in the value of the dollar against the yen since late last year.

Influential economist Henry Kaufman of the Wall Street investment firm of Salomon Bros. said Friday that the new American policy represents a fundamental strategy shift to prop up the dollar, which has fallen farther and faster than U.S. officials had hoped. "Namely, any further significant weakness in the dollar will be met by additional tightening of U.S monetary policy," Kaufman said.

He added that "the new Fed policy is also aimed at curbing the recent rise in inflationary expectations" and that the central bank's actions "run the risk of producing only sluggish economic growth."

'I Wish It Hadn't'

In Washington, President Reagan said, "I wish it hadn't," when a reporter called out at the end of a Rose Garden ceremony Friday that the prime rate had risen.

Later, White House spokesman Marlin Fitzwater said: "We agree with the current course of monetary policy that money supply is adequate to provide economic growth with low inflation. We hope that this increase in interest rates, which should be helpful in preserving the dramatic gains that we have made against inflation, will be temporary in nature."

He said that as the prime rate has declined from its high of 20.5% during the last six years, "there have been up and down fluctuations, and I am sure we will continue to see them.

"We do hope it's a temporary action, and will give us the dual benefit of keeping inflation under control and at the same time going back down again within a short period of time," he added.

Although most consumer and mortgage interest rates are not directly tied to the prime rate, their movement generally mirrors that of the prime. Economists have been predicting a gradual increase in all interest rates for the rest of the year.

Expects Higher Prime

"I certainly expect further prime rate increases in the weeks ahead. By midyear, I see the prime at 8.5%," said David M. Jones, director of research at Aubrey G. Lantson & Co., a Wall Street securities firm.

Consumer rates will follow the prime upward, Jones said. Some home-equity and credit-card loans are linked to the prime, while other rates move in the same direction with a slight time lag.

Mortgage rates have already jumped--in many cases by nearly two percentage points--in response to higher interest rates in long-term government bond markets.

The Fed's new tight-money policy is partly a response to a higher-than-expected spurt of inflation in the first three months of the year, economists said. Consumer prices rose during the first quarter at an annual rate of 6.2%, more than all but the most pessimistic forecasts.

'It's Pretty Scary'

"You see a big number like that and it's pretty scary," said Dan Van Dyke, an economist at San Francisco's Bank of America. Quicker inflation, plus "horrendous news on the dollar front," was the trigger for the Fed's action to tighten monetary policy, Van Dyke said. Markets reacted calmly to Friday's prime rate announcements. The Dow Jones average of 30 industrials closed down 5.96 on moderate volume.

In New York, the dollar closed at 140.10 yen, down 0.85 yen from Thursday's close. Traders said the decline reflected skepticism over the effectiveness of moves to adjust interest rates in the United States and Japan.

Staff writer James Gerstenzang in Washington contributed to this story.

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