Fed Hike Is Likely to Slow Rate of State’s Recovery

The Federal Reserve Board may think higher short-term interest rates are good for the long-term health of the nation’s economy, but they spell bad news for Los Angeles businessman Leonard Rabinowitz.

Rabinowitz, co-chairman of California Fashion Industries, the Los Angeles-based maker of Carole Little brand women’s apparel, said higher rates have played an important role in forcing him to postpone a planned expansion of his downtown Los Angeles factory.

On Monday, the Fed added to the pressure on Rabinowitz by raising short-term interest rates a quarter of a percentage point--the third such hike since early February.

Every quarter-percentage point hike in rates could add as much as $75,000 in costs to California Fashion’s revolving credit line of $30 million. “Rising interest rates mean higher expenses and less opportunity for investment,” Rabinowitz said Monday. “It’s that simple.”

In California, as consumers and businesses alike are trying to nurture the flickering flame of economic recovery, continuing increases in interest rates nationwide are an ill wind, whatever their effect on the rest of the country.

Some business people fear that higher rates could cool demand for consumer credit, affect purchases of everything from cars to stereos and--most important--chill the recovery in California’s real estate market, whose rebound is considered crucial to the state’s recovery.

As that market slows, industries from banking to retail home repair can expect to feel the ripples.

For individual Californians, like public relations specialist Linda Smith Frost, the higher rates in recent weeks have meant lost opportunities.

Frost--who returned to work 18 months ago after a year’s layoff--had held off refinancing her Mar Vista home’s adjustable rate mortgage, whose rate had fallen sharply in recent years.

Now, Frost feels she may have waited too long. She’s planning to refinance in the next couple of weeks, but believes higher rates won’t improve her cash flow as much as it might have.

“I should have refinanced two months ago instead of now,” she says. “I’m disappointed.”

To be sure, some executives say the ultimate effects of interest rate hikes are still unclear. The Fed’s strategy of bumping up rates--first in February and most recently on Monday--is intended to head off inflation in the rest of the nation, where the economy is growing robustly.

The question is how much rising rates will hurt California, which is still in the early stages of economic recovery.

“A dampening of confidence gives people a reason to put off a purchase, and if an interest rate hike gives them that reason, that will be more important than the actual effect of a quarter of point of interest,” said Robert A. Gunst, president and chief executive officer of The Good Guys, the San Francisco-based chain of electronics stores.

Technically, the Fed’s action will raise the so-called federal funds rate--the rate banks charge each other for overnight loans--a quarter of a percentage point to 3.75%, signaling an increase in other short-term rates that will affect consumer loans.

The latest hike in short-term rates could also signal further sustained rises in long-term rates, such as mortgage rates, as reflected in trading on the bond markets. On Monday, yields on the bellwether 30-year Treasury bond rose to 7.42% --the highest level since the week before President Clinton’s inauguration--from 7.28% Friday.

California’s economy had started to turn around, spurred in part by historic low mortgages and other interest rates, as well as by a short-term boom in construction following January’s Northridge earthquake.

A record wave of home mortgage refinancings, meanwhile, freed a lot of cash for homeowners to spend on new furniture, refrigerators and televisions.

George Collins, a real estate agent in the Brentwood office of Jon Douglas Realtors, said sales last month were double those of a year ago, due mainly to low interest rates. Rising rates “will definitely encourage the buyers . . . to sit back and watch the market a little more.”

Steven Abo, a mortgage broker in West Los Angeles, says that rising rates have cut his brokerage’s level of refinancings by 20%. Others have reported a drop-off of up to 80%.

“There are fewer people who benefit from a refinance overall,” Abo said. “That doesn’t mean business isn’t good. It’s still good, but not what it was over that last couple of years.”

At HomeBase Inc., the Irvine-based chain of home-improvement stores, the recent uptick in new-home sales helped bring in new customers, said President Allan Sherman.

Now, it’s unclear what the rising rates will do to sales, he said, adding: “I wish we all had a crystal ball to see how people react to this.”

Rising rates are also likely to affect borrowing by the state of California, said Ted Gibson, principal economist with the state Department of Finance.

Already, rates on tax-exempt bonds have risen nearly a percentage point since the beginning of the year, Gibson said. For every $1 billion of state debt, a one-percentage-point increase means an additional $10 million a year in interest costs.

Since the state has a total of $6.3 billion in potential debt authorized but not yet issued in the form of tax-exempt bonds, the additional costs could be significant for a state still struggling to balance its budget.

At the Saturn automobile dealership in Torrance, general manager Kevin Kenney said that rising rates have so far had little effect on sales. But, he added: “Common sense would tell us as interest rates go up, people will start to be fearful of making large purchases.”

John Wilson, chief economist for BankAmerica Corp. in San Francisco, said he expects further rate increases, probably at the Fed’s May meeting, as the nation’s central bank tries to slow the rapid growth and keep inflation under control.

“The reason the Fed is raising interest rates is that it is trying to engineer a ‘soft landing’ for the (national) economy, to bring about 2.5% growth in 1995,” Wilson noted.

The ironic and unfortunate part of this is that the national economy is not generating significant growth in income or jobs, he said. And in California, “we’re vulnerable,” he added. “We’re lagging the national economy by one year.”

Times staff writer James Flanigan contributed to this story.