Fed Unconvinced That Current Economic Situation Justifies Higher Rate

Bloomberg reports that the Federal Open Market Committee met in Washington on Tuesday and later released a statement saying that the benchmark rate will be kept “exceptionally low” for an “extended period”. It acknowledged that the economy has shown signs of improvement but highlighted that employers are yet to start hiring, the homebuilding market is still depressed and inflation will remain low for some time.

In effect, the FOMC concluded that this incipient economic recovery will not raise inflation or reduce unemployment fast; as such, there is no justification to end the low interest rate regime at this juncture. Charles Lieberman, a former Fed official said “It’s very difficult to make a strong case that the economy is in a self-sustaining recovery until we have job growth”. Therefore Chairman Ben S. Bernanke and his colleagues will wait for a sustained increase in employment before they decide to exit this current expansion of credit.

The target rate for overnight loans between banks has been kept in a range of 0 to 2.5%. This has remained unchanged since December 2008. A confirmation was given that the program of buying $1.43 trillion of mortgage-related debts will reach its completion by March end.

Nobel Laureate Joseph Stiglitz is of the view that the completion of mortgage-debt purchases by the Fed might drive up the mortgage rates thereby worsening the housing crisis. “The withdrawal of the support risks increasing the interest rate, increasing the number of foreclosures and exacerbating the strain, the stress, that American families are already facing,” Stiglitz said in an interview in Tokyo. He is of the opinion that the officials have “misjudged things,” and he has predicted that foreclosures and bank failures this year will exceed those in 2008 and 2009.

The fed said on Tuesday that the job market is ‘stabilizing’. This is an improvement from its January statement that the ‘deterioration in the labor market is abating’. The unemployment figure for February was at 9.7%, down from 10.1% in October. After this FOMC meeting, some analysts have pushed back their forecasts for a rate hike.

RBS Securities Inc. has now revised its forecast for a rate hike from June to September. UniCredit Global Research now expects higher rates in early 2011 instead of September 2010. The FOMC did not make any mention of the methodology that will be used to tighten credit and ensured that the $1.2 trillion of excess bank reserves will not spur inflation. On 25 March, Ben Bernanke is scheduled to testify on this subject to the House Financial Services Committee.