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US Federal Reserve Left Rates Alone
added: 2008-06-26

The US Federal Reserve left rates alone but continued to push its concern about inflation. In the usual statement issued after the two day meeting in Washington which left the Federal Funds rate at 2%, the Fed stopped short of saying that it now sees inflation as the dominant risk.

It was a delicate juggling job as it kept open the option of raising interest rates, without signalling an intention at this stage to do anything.

It was the first time in nine months that the Fed had left rates un changed after seven successive cuts.

The widely anticipated move Wednesday came as attention is focusing on the rising price of oil and other commodities, especially foodstuffs.

While the Fed said in its statement that it still expects inflation pressures to ease later this year, it warned there was upward pressure on prices from rising oil and other commodity prices.

The Fed said "although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased."

But even on inflation it seemed to be hedging its bets, saying what while it now viewed some measures of inflation expectations as "elevated", it did not say that it saw expectations as rising. The US central bank highlighted higher oil as a risk to both inflation and growth.

Bond prices initially fell as investors judged the statement to be slightly tougher than the market had expected, but soon regained earlier levels. US share prices were steady for a while, then had a strong run upwards, only to sag in the last half hour of trading. The US dollar was largely unchanged.

Of interest was the changed language from the Fed about the state of the US economy: it upgraded its description of near term growth, saying the economy "continues to expand, partly reflecting some firming in household spending".

It also upgraded its description of the housing market, saying a contraction was now "ongoing" rather than "deepening".

The Fed ignored the continuing slump in house prices and another fall in new home sales; and it seems to have accepted the conventional wisdom that the tax rebate will save the economy from sliding into recession, when more and more US economists are worried that its impact will be gone after August and the economy will be at risk.

As the Fed was meeting that US government reported that May durable goods orders were basically flat, after falling 1% in April. The figures were in line with forecasts and were bolstered by orders from the export sector.

Another report showed that new home sales fell 2.5% in May, to a seasonally adjusted annual rate of 512,000 units compared with 525,000 in April. That was just a forecast 510,000 units.

However, sales in the year to May dropped 40%, reflecting the ongoing damage to the housing market.

American Express warned that more customers were falling further behind on their debt repayments, a sign perhaps that the lot of the US consumer is getting tougher.

It's clear from what Amex said that consumers are not using the tax rebate to repay debt.

Amex CEO, Ken Chenault said in a statement that "Business conditions continue to weaken in the US and so far this month we have seen credit indicators deteriorate beyond our expectations.''

In Europe, the head of the European Central Bank, Jean-Claude Trichet, left no doubt there's a strong possibility of a rate rise when the ECB meets next week.

That will not help the Fed's attempts to juggle the weak economy, fragile state of financial markets, and the fears about inflation worsening.

"Upside risks to price stability over the medium term have intensified further over the past few months, in a context of very vigorous money and credit growth," Mr Trichet said to the European Parliament,

He said the central bank expected annual eurozone inflation, which rose to a 16-year high last month of 3.7%, "to remain high for some time to come, before moderating only gradually in 2009".

But he told the European Parliament he didn't mean to signal "a series of increases.''

The problem for the Fed is that unlike the ECB, it has no room to move. It can't cut rates any further because of the threat from rising inflation, but it can't increase them because the economy is weak and the financial markets fragile to unsettled.

The Fed's statement said that the rate cuts it has already made should help lead to improved economic growth, although it cautioned the economy is still weak due to tight credit, a weak housing market and high energy prices.

That's a rock and a very hard place.


Source: ABN Newswire

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