Fed Holds Rate, Holds Off on New Stimulus Amid Weakened Recovery

Under the intense scrutiny of world markets days after the United States' embarrassing credit downgrade, the Federal Reserve emerged from its latest monetary policy meeting pledging to keep interest rates low and stay the course on its Treasury securities purchases. However, Chairman Ben Bernanke and company failed to unveil any new programs to help out the stalled economy, which the Fed finally admitted has been significantly slower in rebounding than predicted even as recently as six weeks ago.

The Fed's Federal Open Market Committee (FOMC) held interest rates at a range between 0% and 0.25% Tuesday. Additionally, the FOMC uncharacteristically gave a time range for keeping rates low through mid-2013. The aim is to ease concerns of the business sector. Previously, the FOMC fell back on vague statements of keeping rates low "for an extended period." The FOMC also opted to continue its "existing policy of reinvesting principal payments from its securities holdings."

"I actually was surprised to see that they committed a firm deadline on the rate," Xiaobing Shuai, economist for Chmura Economics & Analytics, told NACM. "I did not expect the Fed would tie its hands for so long. The Fed action implies that the economy was even weaker than everyone thought. I think the action will help the economy for the next year, but I worry that by committing the rate for two years, inflation may pick up even more in the second half of 2012. I'm not sure what the Fed will do then."

Without making mention of the Standard & Poor's rating decrease, the FOMC noted economic growth was not likely to increase in rapid fashion anytime soon. It pegged long-term factors such as the high unemployment rate and staggering housing prices as well as more temporary problems such as supply-line disruptions tied to the Japanese earthquake/tsunami disaster, as the main hurdles to a hot recovery period.

"The committee now expects a somewhat slower pace of recovery over coming quarters than it did at the time of the previous meeting...Moreover, downside risks to the economic outlook have increased," the Fed's statement noted. "The committee also anticipates that inflation will settle, over coming quarters."

Ken Goldstein, an economist with the Conference Board, noted the Fed may not have announced a Quantative Easing 3 stimulus program, but they certainly left the option on the table. However, there's reason for pessimism that any Fed effort will work effectively against the economy's ills at this time without better monetary policy coming from the federal government.

"QE3, should it be implemented, will have less impact than QE2, which itself was largely ineffectual," Goldstein told NACM. "The chance of recession is uncomfortably high, one-in-three, and there is fear that it probably will be much higher, well over 50-50, at some point. But the larger issue is that the consumer remains in austerity. Business has no need to step up investing or hiring while consumers remain in austerity; so job and income remain slow, reinforcing consumer austerity." In short, the U.S. economy may be stuck in the slow lane for a considerable period.

Brian Shappell, NACM staff writer

 

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