The Federal Reserve Board yesterday raised the interest rate it charges member banks to borrow from it to 7 percent from 61/2 percent, confirming that the central bank has moved to tighten monetary policy to fight inflation in recent weeks.
In the past month the Fed has raised its said it was raising the so-called discount rate to bring it into better "alignment" with other market rates.
In the past month the Fed has raised its target open market interest rate, the so-called federal funds rate, from 63/4 percent to 71/4 percent.It did so in order to make money more expensive and therefore hold down the growth of the money supply.
Although economists differ on how important the money supply is to the health of the economy, nearly all analysts agree that if the money supply grows too fast it will contribute to inflation.
Yesterday afternoon the Federal reserve reported that the money supply grew by $4 billion in the week ended May 3 and that it has been growing at an annual rate of 8.5 percent for the last 13 weeks, well above the Fed's target range of 4 to 6.5 percent (see page F6).
In a speech yeaterday, Federal Reserve Board Chairman G. William Miller said that it was necessary "for the Federal Reserve to tighten up somewhat on money" because of the threat of inflation.
Several administration officials have critized the Fed's recent tightening action, worrying that highrr interest rates increase he cost of production and thus put pressure on inflation. Higher interest rates make home mortgages more expensive, too. Higher interest rates have played a major role this year in boosting the cost of living.
But White House spokesman Jody Powell yesterday declined to answer questions about the discount rate increase.
Powell said he would not be drawn into a seeming criticism of the Federal Reserve Board as presidential adviser Stuart Eizenstat was ealier in the week.
Powell said Eizenstat was not criticizing current Fed policy in remarks to a Democratic National Committee group.
Powell said Eizenstat was only talking about the "hypothetical" possibility of a continued series of increases in interest rates and the problems that could be created, not about the Federal Reserve's actions to date.
Miller, in his speech yesterday, said he has not received any White House criticism of Fed policies. "We have had no confrontation or disagreement at all," he said.
But Miller said the Federal Reserve does not want the burden of inflation left solely to monetary policy. He said he favored a smaller federal budget deficit to help hold down inflation.
In earlier years a change in the discount rate was the Fed's way of signalling to the nation that it was taking action to loosen or tighten monetary policy. Now the central bank relies on is open market operations and their impact on the federal funds rate and adjusts the discount rate to follow other interest rates, as it did yesterday.
The federal funds rate is the interest rate banks charge each other for overnight loans of excess reserves. When the Fed moves to tighten monetary policy and raise the federal funds rate it sells government securities to the open market.
Those sales sop up funds which banks otherwise would lend, thereby making money more expensive.
The Fed, in raising interest rates, is actually trying to slow the growth of the money supply -- currency in circulation and checking account deposits.
The Fed is often criticized by so-called monetarists for using interest rates as a guide to controlling money growth.
These economists say that the Fed can never be sure it is raising the discount rate enough to check demand for money and say the Fed should just pick the rate at which it wants to add reserves to the system and follow that course, ignoring the federal funds rate.