Wednesday June 24, 03:23 PM
Fed readies statement amid fragile recovery signs
By Rob Lever
WASHINGTON (AFP) - The Federal Reserve, concluding a two-day meeting Wednesday, readied a new monetary policy statement expected to acknowledge tentative signs of recovery from the economy's prolonged recession.
Despite the so-called "green shoots," economists expect the Federal Open Market Committee (FOMC) to maintain its near-zero interest rate policy and to reaffirm a commitment to keep pumping money into the financial system.
The panel led by chairman Ben Bernanke was due to release its statement at the end of the meeting Wednesday around 1815 GMT.
Analysts say that although no change in policy is expected, the Fed statement will offer clues to the central bank's view on recovery and when it may end its vast stimulative effort some call "quantitative easing."
"We're sure the FOMC will be discussing today how to manage the unwinding of the array of unconventional policies put in place to deal with the turmoil of the past year and a half," said Ian Shepherdson at High Frequency Economics.
But Shepherdson said it is too soon to signal any pullback from the aggressive stimulus.
"The commercial banking system in the US still requires life support," he said.
"There is no evidence of sustainable recovery, merely signs that the catastrophic plunge in activity which began in the aftermath of the Lehman (Brothers (G03.SI - news) ) crash (last September) is over. That is welcome, but it is not enough."
While a change in the benchmark federal funds rate is unlikely, traders are expected to pay close attention to the communique, said Mike Schwager, market strategist at Claymore Securities.
"The market seems to be growing fearful that the Fed doesn't have an exit strategy in place -- removing the liquidity from the market to temper inflation -- while not acting too soon to squash the still fragile recovery," Schwager said.
"One potential solution that seems to be evolving in the market would be for the Fed to move from the current federal funds rate range of zero to 0.25 percent to a single point of 0.25 percent."
The Fed's job has been complicated by a jump in yields on the bond market, which influences other rates including mortgages that the Fed cannot directly control.
This reflects some renewed fears of inflation once a recovery takes root, but the higher rates could put the brakes on a recovery, say some analysts, who are pricing in a Fed rate hike by the end of this year.
"The Fed knows it must implement a correct monetary policy and on top of that it might have to take some steps to salve the bond market," said Robert Brusca at FAO Economics.
"Ironically the Fed may have to raise the Fed funds rate before it wants in order to keep long-term rates in check if the bond market is spooked by stronger than expected growth in the economy. That is a major complication."
Dean Maki at Barclays Capital said that based on stimulus efforts including the recently passed "cash for clunkers" measure to spur auto sales, the economy could grow at a relatively strong pace of 2.5 percent in the third quarter and 3.5 percent in the fourth quarter after steep declines. But he said the Fed will remain stimulative.
"We are not changing our Fed call in response to this economic forecast change; we continue to expect the federal funds rate to be unchanged through 2010," he said.
"We project the unemployment rate to rise further this year and to drift down only gradually, remaining above 9.0 percent throughout 2010. With this much slack in the economy, we think the Fed will keep rates on hold unless the rebound is more vigorous than we project."
The Fed has already embarked on a massive program to purchase up to 1.2 trillion dollars in government and agency debt in an effort to bring down a variety of interest rates it does not control.
Bernanke calls the effort "credit easing" while others call it "quantitative easing." It is aimed at lifting the economy out of its worst crisis in decades.
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