The 2008 financial crisis, along with the fitful rebound that has followed, makes one thing clear: Nothing affects the U.S. economy more than the actions of the Federal Reserve. That's especially true in an era when partisanship in Washington blocks congressional action on spending and taxes, another key economic lever.
Those realities throw an unusually bright spotlight on this week's meeting of the Federal Open Market Committee (FOMC), which sets interest rate policy for the Fed. At issue: Whether to raise short-term rates for the first time since 2006.
The decision affects everything from the returns people get on their bank deposits to how much consumers and employers pay for credit cards, mortgages, small business loans and student debt.
More broadly, after years of rates scraping bottom, tightening would also represent an inflection point -- and key test -- for the economy. Since the Great Recession, the Fed has sought to shore up growth by keeping rates near zero to encourage consumers and companies to borrow. Many credit that "loose-money" approach for helping keep the recovery on track, although critics say the low interest rates have mostly boosted big banks and other large financial actors while penalizing savers.
While Fed policy can seem eye-glazing, in short, it really matters. At the same time, Wall Street prognosticators are all over the map in guessing what the Fed will do. As the days of "easy money" seemingly draw to a close, here's what that could mean for the economy -- and as a bonus, you'll sound clever around the water cooler.
1. What is the Federal Reserve doing today?
After concluding a two-day meeting, at 2 p.m. Eastern time on Thursday, Fed officials will release their latest policy statement, which will indicate if they're raising short-term interest rates for the first time in nine years. Fed Chair Janet Yellen will also give a news conference to discuss the central bank's thinking and to present the FOMC's economic outlook.
Raising or lowering interest rates isn't the only way Fed policymakers steer the economy. Simply talking about monetary policy can also have a direct impact on economic and financial activity. Beginning in the 1990s, Fed officials started speaking more openly about policy as a way of signaling their intentions to financial markets, businesses and consumers. The most important channel of communication is the FOMC statement, which the Fed issues eight times a year following its meetings. It contains the panel's decision on interest rates, often hinting at where rates might be going, and offers the Fed's economic forecast.
The practice of having the Fed chair address the media started only in 2011 under former chief Ben Bernanke. Yellen's take on the economy is critical because the chair speaks for the entire FOMC.
2. Why is the Fed considering raising rates?
As the steward of American monetary policy, the Fed has two main, and interconnected, mandates. One is to keep prices stable, which since 2012 has meant keeping inflation rising at around a 2 percent annual rate. The other is to ensure the job market operates at "full capacity" by keeping unemployment at its "natural" rate (thought these days to range from 5 percent to 5.5 percent).
3. What could stop the Fed from raising rates this week?
Economic fragility. Although the U.S. economy continues to heal from the housing crash and financial crisis, growth this year has been modest. Many forecasters expect GDP -- the total value of goods and services made in the U.S. -- to grow only 2 percent to 2.5 percent this year, continuing the slow rate of expansion since the Great Recession officially ended in June 2009.
Worker wages, which have been stagnant for decades, are a particular concern. Most Americans have seen little growth in their pay during the recovery. Census data out this week show that Americans earned less in 2014 than they did the previous year, and income hasn't grown much in 2015.
With the economy seemingly vulnerable, some experts fear that raising interest rates before the U.S. is firing on all cylinders could cause the recovery to falter, perhaps even triggering another recession.
Market volatility. The economy also faces other headwinds. A strengthening dollar is resulting in weaker U.S. exports, which affects manufacturers and trims overall economic growth. A slump in oil prices, while good for consumers, has dented the energy sector with cuts in capital spending and widespread layoffs. And a decline in China's economic activity is raising concerns about a broader global slowdown.
Those fears have made investors jumpy, as shown last month when the S&P 500 plunged 11 percent over six days amid economic turbulence in China.
What's the hurry? Although waiting too long to hike rates could eventually hurt the economy by pushing up wages and prices, inflation remains well below the Fed's 2 percent target rate.
In a surprise, the U.S. Labor Department said Wednesday that the Consumer Price Index, a closely watched barometer of inflation, fell 0.1 percent in August. That's the first decline since January, suggesting inflation isn't exactly hiding around the corner. Other signals, notably slow wage growth, also suggest the economy is still running below capacity.
In general, economists say, and as history suggests, it's easier to contain inflation once it starts rising than kick-starting declining growth. Plus, if the Fed doesn't start normalizing monetary policy this week, it has two more meetings this year (in October and December) to initiate "liftoff."
4. What's the case for raising rates this month?
Fed "hawks" say the economy could overheat if the central bank waits too long to raise interest rates, noting that it can take several years for rate moves to take effect. Such a delay can cause financial instability by driving up asset prices, including stocks, raising the risk of a crash when the bubble pops. The result can be spiraling inflation, market volatility and slowing economic growth.
Proponents of raising rates now contend the labor market is close to full employment, with the jobless rate down to 5.1 percent, the lowest level since April of 2008. That suggests inflation, including wages, is likely to pick up over the next year even if the Fed pushes up rates immediately. Under this view, inflation remains muted mostly because of temporary factors, such as the stronger dollar and a decrease in commodity prices, and will accelerate once those factors have passed.
Some economists also warn that keeping rates near zero is risky because it would make it difficult for the Fed to loosen monetary policy the next time the economy falters. As for concerns that pushing up borrowing costs could knock the recovery back on its heels, proponents say the economy is more resilient than it was several years ago and that the Fed's move to telegraph the rate hike lessens the likelihood of a slowdown.
5. How does the Fed raise interest rates?
The Fed typically raises rates by selling government-backed securities, which drains money from the financial system. This affects the Federal Funds rate, which is what banks charge each other for short-term loans. The central bank lowers rates by reversing the process, buying securities to inject dollars into the economy.
After the 2008 financial crisis, the Fed bought trillions of dollars in Treasuries and mortgage-backed securities in order to stimulate economic growth by pushing down interest rates.
6. How does raising the Federal Funds rate affect borrowers?
A higher rate makes it more expensive for individuals and businesses to borrow. That's because rising overnight bank lending rates also shrink the nation's money supply, which pushes up rates for mortgages, credit cards and other loans.
7. What's the Federal Funds rate now, and how sharply could it rise?
It has hovered between 0 percent and 0.25 percent since the central bank last cut it in December 2008. Yellen has underlined that when the Fed finally does lift rates, it will do so gradually to avoid short-circuiting the economy. Most forecasters expect a first increase of 0.25 basis points, or even less.
8. What impact could a rate hike have on the U.S. and global economy?
Raising U.S. interest rates would likely lift the value of the dollar. If inflation remains tame, that would boost Americans' purchasing power, making foreign-based goods more affordable.
But a stronger dollar could hurt U.S. companies that sell their goods abroad by raising the price of their products overseas. That could stunt U.S. exports and slow domestic economic growth. The damage would likely be worse if rates rise faster than financial markets expect.
A rate hike will also have global repercussions. Many developing economies have a lot of dollar-denominated debt, so one concern is that rising U.S. interest rates could hurt these countries' growth. A stronger dollar might also spur global investors to shift their capital out of emerging markets and into the U.S., affecting the emerging economies.
A major slowdown in these countries, which include major economies such as Brazil, China and India, could harm global growth. That would affect the U.S. economy.