Fed Officials Expected To Leave Rates Unchanged

WASHINGTON (AP) _ The Federal Reserve has gone a year since it last changed interest rates and it could be another year before the Fed moves off the sidelines. <br/><br/>That is the betting of many private

Thursday, June 28th 2007, 7:31 am

By: News On 6

WASHINGTON (AP) _ The Federal Reserve has gone a year since it last changed interest rates and it could be another year before the Fed moves off the sidelines.

That is the betting of many private economists who think Federal Reserve Chairman Ben Bernanke and his colleagues are perfectly content to sit back and watch economic developments unfold according to their script.

Fed officials, wrapping up a two-day meeting on Thursday, were expected to announce that for the eighth consecutive time they will leave the federal funds rate unchanged at 5.25 percent.

``It looks like the Fed is going to stay on hold for as far as the eye can see,'' said Mark Zandi, chief economist at Moody's Economy.com. ``They are not going to ease as long as unemployment is as low as it is and they are not going to tighten while they are faced with an unraveling housing market.''

While Bernanke acknowledged recently that the housing slump is lasting longer than Fed officials had expected, in most other respects the economy is performing exactly according to the Fed's desires.

The central bank pushed the funds rate up a record 17 consecutive times over a two-year period with the final quarter percentage-point move occurring on June 29, 2006. The Fed's goal was to increase rates enough to slow the economy and relieve rising inflation pressures.

The economy has certainly slowed with growth in the first three months of the year coming in at the weakest pace in more than four years.

But that slowdown is cooling off inflation. The Fed's preferred measure of inflation, excluding volatile energy and food prices, rose by just 2 percent for the 12 months ending in April, at the top end of the Fed's 1 percent to 2 percent comfort zone.

There has been talk that the central bank may decide to switch the focus from core inflation, which excludes energy and food, to overall inflation. The argument for such a move would be that it would toughen the Fed's anti-inflation fighting credentials by acknowledging that energy prices and food costs need to be watched closely because they have been rising at uncomfortably high rates.

But such a move could jolt financial markets, which have had a long time to become accustomed to a central bank that sets policy by watching core prices that exclude volatile food and energy costs.

``Switching their inflation target would hurt the Fed's credibility and confuse markets,'' said David Jones, head of DMJ Advisors, a private consulting firm. ``It would leave everyone in the lurch.''

Other economists believe that what the Fed might do at this week's meeting is stop describing the inflation risk as ``elevated,'' which would acknowledge that there has been a lessening of inflation pressures since their last meeting on May 9. But even if they drop that word, economists believe they will continue to stress that inflation remains the biggest threat to the economic expansion.

While financial markets had until recently been hoping that the Fed would start cutting rates later this year, that expectation has faded away because of the emerging signs of an economic rebound and continued emphasis on the part of Bernanke and other Fed officials about lingering inflation fears.

However, these analysts said rate cuts could be quickly put back on the table should the deep slide in housing start to worsen further, triggered by rising mortgage defaults which would dump even more homes back on a glutted market.

``I am quite concerned about the reverberations from the subprime mortgage market spreading through the economy,'' said economist Sung Won Sohn, who is president of Hanmi Bank in Los Angeles. ``I think it is going to be larger than people realize.''

But as long as housing does not threaten to derail the economy, the Fed will be content to leave rates unchanged, said Lyle Gramley, senior economist at the Schwab Washington Research Group.

``Unless the economy behaves differently than I anticipate, I think the next Fed move is a ways off,'' he said. ``I think they will stay on hold until the middle of next year.''