The Federal Reserve on Wednesday sharply lowered its forecast for economic growth in 2008 and said it was worried the economy could face further setbacks even after a series of aggressive interest rate cuts.
“With no signs of stabilization in the housing sector and with financial conditions not yet stabilized, the committee agreed that downside risks to growth would remain even after this action,” the Fed said in minutes of its January 29-30 meeting, when it cut rates by a half-percentage point.
The reduction brought benchmark rates to 3 percent, and followed a bold three-quarter percentage point emergency rate cut at an unscheduled meeting of the policy-setting Federal Open Market Committee just eight days before.
The January rate-cutting spree was the most abrupt reduction in borrowing costs since the early 1980s. Minutes of the end-of-month meeting and two conference calls earlier in January showed policy-makers’ mounting anxiety that financial market strains could lead to “an excessive pull-back” in credit availability and investment.
Fed officials agreed before the surprise January 22 rate cut that decisive action was necessary to provide a jolt of confidence to shaken financial markets.
DECISIVE
Citing a deepening housing slump and tight credit, the Fed lowered its economic growth forecast for 2008 to between 1.3 percent and 2 percent from a range of 1.8 percent to 2.5 percent it had projected in November.
“The possibility that house prices could decline more steeply than anticipated, further reducing households’ wealth and access to credit, was perceived as a significant risk to the central outlook for economic growth and employment,” it said in its latest quarterly forecast.
The forecast and meeting minutes showed the U.S. central bank was worried about a vicious cycle of declining home values, tighter credit and a weakening economy. Concern about recent signs of undesirably high inflation appeared relegated to the back burner for most Fed policy-makers.
Still, even as the Fed sounded a dour note on growth, it lifted its forecast for inflation, a nod to the difficult policy environment officials face as growth slows and price pressures persist.
It revised its 2008 inflation forecast to between 2.1 percent and 2.4 percent from 1.8 percent to 2.1 percent, and hiked its projection for core inflation, which strips out energy and food prices, to between 2 percent and 2.2 percent from 1.7 percent to 1.9 percent.
A report on consumer prices on Wednesday underscored the quandary facing the Fed. The Labor Department said the consumer price index rose 0.4 percent for a second straight month and was up a steep 4.3 percent in the 12 months through January.
St. Louis Federal Reserve Bank President William Poole said on Wednesday — without referencing the latest price data — that ignoring inflation now could lead to a painful recession later.
Stocks rose on a strong profit outlook from Hewlett-Packard Co (HPQ.N) and on the belief the Fed is ready to cut rates further to boost the economy. However, prices for U.S. Treasury debt were mixed as traders saw the inflation data suggesting the Fed’s ability to cut rates further might be limited.
‘RAPID REVERSAL’?
While the Fed acknowledged elevated inflation, the minutes of its January 29-30 meeting showed most officials thought a half-point rate reduction would not increase price pressures given the economy’s weakness and the likelihood unemployment would rise.
The central bank said the jobless rate, which stood at 4.9 percent in January, would likely rise to 5.2 percent to 5.3 percent by the fourth quarter. In November, they had expected the unemployment rate to average between 4.8 percent and 4.9 percent in the final three months of the year.
The latest projections showed officials expect growth to pick up next year and quicken further in 2010, with the unemployment rate moving down gradually.
Some policy-makers noted the possibility that the economy could rebound quickly and spark inflation, and said they would be ready to counter any such danger by raising rates.
“When prospects for growth had improved, a reversal of a portion of the recent easing actions, possibly even a rapid reversal, might be appropriate,” the minutes said. (Reuters)
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