Thursday’s 25 basis point increase in the Discount Rate, rate charged to banks for direct loans, was the Central Bank’s latest step towards normalizing policy, a process that will likely take several years. And while the move by itself does not signal that a change is imminent in the Overnight Rate (the Fed Funds Rate), it certainly will stir speculation that the Fed is moving closer changing its language regarding the need for “exceptionally low” levels for an “extended period.”

Today’s move widens the rate’s spread over the top range for the benchmark federal funds rate to 50 basis points (0.5 percentage point), half the normal 100 basis point difference.

It’s All About “About”

Fed watchers are likely to note a subtle shift in the Fed’s tone, because although the accompanying statement did point out that today’s move did “not signal any change in the outlook for the economy or for monetary policy,” it also mentioned that the outlook for policy remains “about as it was at the January meeting of the Federal Open Market Committee.”

“About as it was,” to my way of thinking, is different than saying “as it was.” It implies that improvement has been made since the last meeting and that conditions going forward will allow further moves to unwind the extraordinary measures taken in response to the credit crisis.  In other words, it’s another step towards normalizing policy and doing business as usual.

In addition to raising the rate, the term for Discount Window loans was reduced to overnight. The Central Bank had increased the term to 90 days and reduced it 28 days on January 14.

In reaction, S&P futures were lower by just over 1% by 10 pm EST and the dollar was gaining on the euro, pound A$ and K$. USD/JPY, after rising initially, started to head lower as what usually happens when stocks retreat.

At this point, it’s safe to say that in the absence of aggressively dovish comments from Fed officials, the short dollar trend that began in March 2009 is, for all intents and purposes, officially over.