Fed Leaves Interest Rates Unchanged

The Federal Reserve Board decided Wednesday not to raise interest rates despite concerns about overheating in the economy, for fear of exacerbating the turmoil in global financial markets and hurting fragile Asian economies.

After a three-hour meeting, the 12-member Federal Open Market Committee left the benchmark federal funds rate--the interest banks charge one another on overnight loans--unchanged at 5.5%, where it has been since March 25.

The decision, which was widely expected, reflected policymakers’ concerns over continuing volatility in world financial markets and a concern that the turmoil might spread if monetary authorities boosted interest rates now.

With the U.S. unemployment rate at a 24-year low of 4.7%, and labor shortages increasing, the Federal Reserve ordinarily might be expected to tighten money and credit by raising the federal funds rate a quarter of a percentage point.

But Dana Johnson, a Fed watcher for First Chicago Capital Markets, said that the stakes involving the Asian economies were too high and that the committee had virtually no alternative but to leave the rates alone.

Raising interest rates now “would have been very dangerous,” Johnson said. “Normally, the Fed would be expected to consider the problems in the domestic economy first. But this is probably the exception to that rule.”

The Dow Jones industrial average fell 157.41 points to close at 7,401.32--a drop of 2.1%. Treasury bond prices rose as investors sought the certainty of government securities.

But analysts said that the bulk of the decline came in reaction to a sharp plunge in prices on the Brazilian stock market--the latest to be hit by the turmoil--and did not reflect concern over the Open Market Committee’s decision.

One reason analysts were not worried about the possibility of renewed inflation as a result of domestic labor shortages was that, despite rising labor costs, the U.S. economy seems likely to slow on its own.

Analysts said that the turmoil in Asia is apt to reduce the gross domestic product, or total value of goods and services the United States produces, by a full percentage-point in 1998, while consumer spending slows markedly.

As a result, economists said, they expect inflation pressures to ease somewhat in 1998. Bruce Steinberg, analyst for Merrill Lynch & Co., predicted that interest rates would decline next year.

“I don’t think they’re risking a lot” by not raising rates now, said Robert G. Dederick, a Fed watcher for Northern Trust Co. “The economy already looks as though it’s slowing. You don’t want to make it worse.”

Wednesday’s action marked the fifth consecutive time the Open Market Committee has decided not to raise interest rates.

The committee has been torn for most of the year between a desire to head off any new round of inflation and fear of acting prematurely. More recently it has been worried that stock market prices were overvalued.

Fed Chairman Alan Greenspan has warned repeatedly that the continued high level of job creation was putting the economy “on an unsustainable track.”

But other factors have made the regulators gunshy about raising interest rates. Until recently, wage indexes showed virtually no speedup in wage hikes or employment costs. And inflation continued to be low.

On Friday, however, the Fed was hit with a double-whammy--news that the economy generated 284,000 new jobs in October, pushing the unemployment rate to an unusually low 4.7%, and new figures showing that hourly earnings are rising.