Federal Reserve: Low rates holding

by Don Lee

The Federal Reserve, offering a modestly more optimistic assessment of the economy today, reaffirmed its policy of keeping interest rates at near zero and suggested it could continue to spur economic activity without triggering inflation.

The central bank, ending two days of scheduled meetings, said that while the recession was easing, "economic activity is likely to remain weak for a time." Household spending, the Fed said, "remains constrained by ongoing job losses, lower housing wealth and tight credit."

As expected, the Fed issued a statement reiterating its pledge to keep the key federal funds rate, the rate banks charge one another for overnight loans, between zero and 0.25 percent for "an extended period." That rate, in place since December, is aimed at lowering interest rates across the board.

The Fed's posture - broadly expected by analysts -- was essentially unchanged from its last policy-setting session in late April. Still, stocks fell immediately after the release of the statement. Some investors, worried about the possibility of inflation, had hoped the Fed would begin backing away from its current strategy of pumping out money to spur lending and stimulate the economy.

Bond investors in particular have expressed concerns that the Fed's expansionary programs, which includes buying up to $1.25 trillion of mortgage-backed securities and up to $300 billion of U.S. Treasury bonds, would drive up inflation.

In its statement, the Fed did take note of recent increases in the prices of energy and commodities, but the central bank restated its belief that inflation "will remain subdued for some time."

The Fed noted that it was monitoring its balance sheet and would "make adjustments to its credit and liquidity programs as warranted."

Diane Swonk, chief economist at Chicago-based Mesirow Financial, said the market seemed to be getting ahead of itself in looking for an exit strategy from the Fed when the economy was still getting its bearings.

"The markets are looking for something the Fed can't deliver right now," she said. "We're in a no-man's land of stabilization."

She added: "The Fed certainly is going to do everything to keep interest rates low. That's the good news. The bad news is that the bond market is worried about interest rates, and people are going to pay the price of higher rates."