Federal Reserve Board policymakers Tuesday sounded a bit more dovish in their war on inflation, describing cooling in the housing market as "substantial" for the first time even as they held their benchmark short-term interest rate steady at 5.25%.
In the statement explaining its decision, the central bank's Open Market Committee signaled new concern about risks that the economy could sputter, noting that "recent indicators have been mixed."
With such slight changes in language, the Fed reinforced the consensus view that the nation's monetary policymakers could begin to lower rates next year. Still, the Fed warned, "some inflation risks remain" that might necessitate credit tightening.
"It was very much in line with what people were hoping for," said Jack Caffrey, an equity strategist at JPMorgan Private Bank.
"I think they are trying to manage the system without having to resort to potentially more challenging measures, such as actually having to raise interest rates," he said. "Instead, they continue to talk about their concerns."
It was the fourth straight time that Fed policymakers met and decided to hold the rate steady, after pausing their two-year credit-tightening campaign Aug. 8.
The Fed's latest statement reflected an economy widely viewed as in transition. It took note of the worsening of the housing market and other "mixed" indicators. But yet it forecast a continued expansion.
It was a small step in the Fed's "painfully slow retreat from the tightening cycle," said Ian Shepherdson, chief U.S. economist for High Frequency Economics. "So, no sea change, but it's not far off."
It wasn't a big enough step, however, for investors hoping for a clearer signal of an imminent rate cut. Major U.S. stock indexes, which were down before the decision was announced, recovered some of their losses but still closed lower for the day.
The Fed under the Chairman Ben S. Bernanke has said it is paying close attention to various indicators of growth, inflation, employment and other data.
Its goal is to guide the economy into a so-called soft landing, one that avoids both recession and runaway inflation. Most economists say that goal remains in sight, and they are forecasting a slowdown -- but not a stop -- in growth.
"There are compelling signs that a recession does not appear likely," Jim Swanson, economist and chief investment strategist at MFS Investment Management, said in a note issued before the meeting.
But, a slow-growing economy is like a plane gliding just above ground: The risk of a crash is greater than when it was at cruising altitude. The closer the economy gets to flat growth, the more it will need some gas -- looser credit -- to keep it in the air.
In acknowledging indicators moving in different directions and the slumping housing market, the Fed gave observers reason to believe it was prepared to hit the gas to avoid recession when necessary.
"The important shift in the tone in the release is that the Fed has nudged down its assessment of economic conditions compared to the statement on Oct. 25," Global Insight U.S. economist Brian Bethune said.
JPMorgan's Caffrey said his firm viewed a rate reduction as a possibility in the second quarter. "For that to happen, we'd have to see more signs of slowing than we've seen thus far," such as a "material weakening" in employment, he said.
Fed committee member Jeffrey M. Lacker voted against holding steady, saying he would rather have seen a quarter-point increase in the Fed's benchmark federal funds rate.
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Text of Federal Reserve's statement
Here is the statement about interest rates issued Tuesday by the Federal Reserve:
The Federal Open Market Committee decided today to keep its target for the federal funds rate at 5.25%.
Economic growth has slowed over the course of the year, partly reflecting a substantial cooling of the housing market. Although recent indicators have been mixed, the economy seems likely to expand at a moderate pace on balance over coming quarters.
Readings on core inflation have been elevated, and the high level of resource utilization has the potential to sustain inflation pressures. However, inflation pressures seem likely to moderate over time, reflecting reduced impetus from energy prices, contained inflation expectations and the cumulative effects of monetary policy actions and other factors restraining aggregate demand.
Nonetheless, the committee judges that some inflation risks remain. The extent and timing of any additional firming that may be needed to address these risks will depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information.
Los Angeles Times