Fed expected to leave rates unchanged

June 24, 2002 at 11:26 AM
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WASHINGTON, June 24 (UPI) -- The Federal Reserve is widely expected to leave short term interest rates unchanged on Wednesday following the conclusion of its two day Federal Open Market Committee meeting.

Analysts expect the policymaking FOMC to leave the key federal funds rate, which influences borrowing costs throughout the economy, at 1.75 percent, its lowest level since July 1961, amid some signs the nation's economic recovery is underway and indications inflation poses no threat.

However, most economists on Wall Street also are expecting the Fed to begin raising rates later in the year.

Robert McTeer, president of the Federal Reserve Bank of Dallas and a voting member of the policy-setting FOMC, seemed to sum up current central bank thinking: "I think it's inevitable that (interest rates) are going to come back up sometime, but I don't know when."

Doug McAllister, senior vice president of Prudential Securities Inc., said, "In light of the sluggish progress of the recovery, the lack of any meaningful improvement in labor markets and the troubling equity markets, analysts in almost total unanimity believe that the central bank committee will opt to leave its interest rate policy unchanged.

"In fact, with the pace of the recovery proving to be slower than thought just a few weeks ago, the odds of the Fed raising interest rates any time before late fall or winter appear remote," McAllister said.

Robert Parry, president of the San Francisco Fed, also appeared to sum up current central bank thinking in recent remarks, "The Fed can wait until the course of the economy becomes much more clear before raising rates to make sure inflation stays low ..."

Parry said he did not think the Fed should alter policy in response to changes in external economic conditions or exchange rates.

"It's important that the Fed not have too many objectives," Parry said, arguing policy should not be changed in response to, say, changes in economic conditions in Japan or Europe or "whether the dollar is up here or down there."

The dollar has lost considerable ground against its major counterparts, the euro and the yen, in recent months, so much so some economists warn it could fuel so-called imported inflation.

"The 40-year-low interest rate environment appears safe for the near term and perhaps into the next year," McAllister said.

The nation's top bank cut its target for short-term rates 11 times back in 2001, a record for a calendar year, to fight the effects of a recession that likely began last March and was worsened by the Sept. 11 terror attacks.

Analysts said recent signs consumer spending and manufacturing are stabilizing have led many to believe the Fed's rate-cutting days are over for the time being.

Federal Reserve Chairman Alan Greenspan recently said the U.S. economy won't grow for the rest of the year at the same robust rate as in the first quarter, but the overall economy maintains a positive outlook.

"I suspect the American economy is in an upswing, it's not going to be a dramatic upswing ... but events look increasingly positive," Greenspan said. "Our outlook at the Fed really hasn't materially changed since January."

Analysts noted the employment situation has remained troublesome, mostly because it has shown little improvement along with the rest of the economy.

McTeer said while the job market's performance lags the broader economy, "so far, our rebound bears some resemblance to the so-called jobless recovery" that took place after the recession of the early 1990s.

Many economists agree the stickiness of the unemployment rate is one of the factors looming largest in their expectation the Fed won't begin raising interest rates until the Aug. 13 meeting at the earliest.

Rapid increases in the productivity of U.S. workers this year, however, may slow the pace of job creation in the near term as employers squeeze more out of existing workers, a prominent Federal Reserve policymaker said.

That also could crimp the U.S. economic recovery, although a "double-dip recession" is unlikely, according to J. Alfred Broaddus, president of the Federal Reserve Bank of Richmond, Va.

"If there is slow growth in jobs, and that leads to slower growth in income, there's the possibility that could at some point have an impact on consumer confidence and spending," Broaddus said. That, however, would merely slow the economic recovery -- not kill it, he said.

Meanwhile, Chicago Federal Reserve Bank President Michael Moskow warned the Federal Reserve can not keep current low interest rates in place indefinitely.

"Clearly ... we cannot maintain our current stance forever," Moskow recently told the American Iron And Steel Institute's general meeting in Chicago.

"Growth in private final demand will firm as the factors that produced economic weakness are unwound," he said.

If the Fed simply left in place the extra stimulus from accommodative policy, "gains in demand would eventually strain the economy's ability to supply goods and services, resulting in the emergence of inflationary pressures," said Moskow, who currently is not a voting member of the FOMC.

With that in mind, Fed officials will try to gauge the staying power of growth in final demand, balance the growth against its reading of the economy's ability to supply the demand in a non-inflationary manner, and peer ahead to see what spending, productivity and inflation will look like in coming quarters given current policy, Moskow said.

Also, last week a prominent U.S. bank economists group expressed confidence in the economic expansion while stressing its strength remains uncertain. It forecast the Fed would raise interest rates as early as September and no later than year-end.

The American Bankers Association's economic advisory committee said the U.S. economy likely would grow at a 2.5 percent annual pace in the current quarter and at a 3 percent clip in both the third and fourth quarters.

SunTrust Bank chief economist Gregory Miller, the panel's chairman, said, "We do not have all hands pulling in this tug-of-war with a sluggish economy.

"Consumers are doing their part but businesses have not yet grabbed hold," Miller said.

Fed policy makers have cut short term interest rates 11 times from the 6.5 percent level at the beginning of 2001 to the current 1.75 percent.

The central bank cut rates at each of its eight scheduled meetings last year and during three impromptu conference calls. Three of the reductions occurred after the Sept. 11 terrorist attacks in New York and Washington.

The Fed controls monetary policy by changing interest rates and the amount of money in circulation.

The Fed, in theory and by law, is supposed to keep the economy at full employment while maintaining price stability.

Lowering interest rates often leads to decreases in long-term rates that businesses and consumers pay. When interest rates decline, businesses expand and consumers have more money to spend.

Analysts noted, however, with some banks, major department stores and credit card companies still charging as much as almost 26 percent for the right to use a credit card, plus unusually high late fees, new fees on debit cards and a shorter billing cycle, consumers are not rushing out and making major purchases.

Starting in 1999, the Fed embarked on a yearlong campaign of rate increases meant to cool the economy to forestall inflation.

Under a policy announced Jan. 19, 2000, the FOMC issues, shortly after each of its meetings, a statement that includes its assessment of the risks in the foreseeable future to the attainment of its long-run goals of price stability and sustainable economic growth.

The federal funds rate is the rate banks charge each other for overnight loans and sets the stage for most other short-term rates. It also ultimately influences long-term rates, such as mortgage interest rates, credit cards and business loans.

The Federal Open Market Committee consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System, the president of the Federal Reserve Bank of New York, and, for the remaining four memberships that carry a one-year term, a rotating selection of the presidents of the 11 other Reserve Banks.

The FOMC holds eight regularly scheduled meetings per year to direct the conduct of open market operations by the Federal Reserve Bank of New York in a manner designed to foster the long-run objectives of price stability and sustainable economic growth. The FOMC also establishes policy relating to system operations in the foreign exchange markets.

The Fed's decision on rates is expected on Wednesday at approximately 2:15 p.m. EDT. The central bank's policy making committee is to meet Aug. 13.

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