Originally created 05/05/04

Fed holds key short-term rate steady



WASHINGTON --The Federal Reserve held a main short-term interest rate at a 46-year low Tuesday in an attempt to keep the economy humming.

Fed Chairman Alan Greenspan and his Federal Open Market Committee colleagues - the group that sets interest rate policy in the United States - left the federal funds rate unchanged at 1 percent, where it has been since last June. The funds rate is the Fed's primary tool for influencing the economy.

But Fed policy-makers dropped a pledge that they had made at their previous meetings this year in January and March to be patient in ordering any possible rate increases. Economists are likely to view that as another move by the Fed to begin to prepare Wall Street and Main Street for an eventual rate increase.

Still, the Fed said that with inflation remaining low and companies operating below capacity, "the committee believes that policy accommodation can be removed at a pace that is likely to be measured."

The Fed's decision Tuesday to leave the fund rate alone means commercial banks' prime lending rate for many short-term consumer and business loans remains at 4 percent, the lowest level in more than four decades. Extra-low borrowing costs have helped to support economic growth by motivating consumers and businesses to spend.

The Fed, expressing a more upbeat tone, said the economy is "continuing to expand at a solid rate and hiring appears to have picked up." The comment on the labor market was more optimistic than at the Fed's previous meeting in March, when it expressed disappointment that new hiring has lagged.

In another change, Fed policy-makers made no mention of the threat of deflation and said that although inflation has moved higher, "long-term inflation expectations appear to have remained well contained."

The economic recovery has gained traction since Greenspan and his colleagues convened last on March 16 to discuss interest rate policy.

Importantly, a government report issued after the Fed's March meeting showed that the economy, after months of sluggish payroll gains, added 308,000 jobs in March, the most in four years. While that raised hope that the jobs market may be turning an important corner, economists say steady and solid gains need to be made in coming months for confirmation that the corner has been turned.

Other data since the Fed's last meeting show that inflation is creeping higher. Although inflation is not a threat to the recovery at this point because it remains low, the upward movement marks a change in the pricing climate from a year ago. Then the Fed was worried about the prospects of deflation, a prolonged and widespread price decline, economists say.

Greenspan told Congress recently that interest rates must rise to keep inflation in check, but he didn't say when that might happen.

A growing number of economists predict the Fed will begin to nudge up rates at its Aug. 10 meeting and some say there's a chance of higher rates at its next meeting June 29-30. Others don't believe a rate increase will come until the Fed's Nov. 10 meeting, after the presidential election.

Under any scenario, analysts believe Fed officials will take their time once they start pushing rates up and don't expect a replay of 1994, when the Fed embarked on a yearlong series of rate increases that led to a doubling of the funds rate.

The economy grew at a solid 4.2 percent annual rate in the January-to-March quarter this year, slightly improved from the 4.1 percent pace seen in the previous quarter. Some economists believe the economy is expanding at a rate in the range of 4.5 percent to 5 percent in the April-to-June quarter.

The recovery is heading in the right direction and appears to have staying power, analysts said.

That would be good news for President Bush, who is counting on healthy economic activity this summer as he campaigns for re-election. The state of the economy figures prominently in the presidential campaign, where Bush and presumptive Democratic nominee John Kerry have been facing off over that issue, among many others.

Despite the improvements, the economy has lost a net 1.84 million jobs since Bush took office. Kerry points to those losses as evidence that the president's economic policies are flawed. Bush insists his policies are working, and a stronger economy will spur job growth.