Fed ends string of rate rises

By Glenn Somerville

WASHINGTON (Reuters) – The U.S. Federal Reserve on Tuesday
halted a more than two-year string of interest-rate rises,
holding its benchmark rate steady while it gauges whether a
slowing economy will keep inflation in check.

If inflation risks persist, the Fed indicated it might
resume raising rates.

The central bank’s policy-setting Federal Open Market
Committee voted to keep the federal funds rate target at 5.25
percent, pausing a cycle that had taken the rate steadily
higher in 17 successive hikes since mid-2004.

One member of the committee, Richmond Fed President Jeffrey
Lacker, voted against the move. The Fed provided no explanation
for his dissent.

Financial markets took the Fed’s action in stride. Stock
prices were modestly lower an hour after the decision was
announced and bonds were mixed amid slight price movements.

Recent economic indicators have pointed to a downshift in
the economy, led by a cooling housing market, but wages and
prices continue to rise and the Fed made clear its optimism
about inflation was wary and conditional.

“Inflation pressures seem likely to moderate over time,
reflecting contained inflation expectations and the cumulative
effects of monetary policy actions and other factors
restraining aggregate demand,” the Fed said in a statement
issued after the meeting.

STILL SEE RISKS

“Nonetheless, the committee judges that some inflation
risks remain,” the central bank added, saying any further rate
moves would depend on the outlook for prices and growth.

While the Fed action offered some drama, it did not
surprise markets. Policy makers did not signal they were
calling off the rate-rise campaign, only that they were
preserving their ammunition for use if needed.

“They did pretty much what was expected by leaving rates
unchanged, but more importantly if you look at the statement
they are certainly leaving the door open to the possibility of
further hikes if needed,” said economist Rick Egelton of BMO
Financial group in Toronto.

As the Fed meeting began, the government reported that
growth in productivity, or hourly output per worker, slowed to
a 1.1 percent annual rate in the second quarter of this year
from 4.3 percent in the first quarter.

The key reason was a 4.2 percent jump in unit labor costs,
the fastest since the end of 2004 and well above the first
quarter’s 2.5 percent — a reminder of inflation’s durability
despite a moderating expansion.

At the conclusion of its previous meeting on June 29, the
Fed cited steady productivity gains as having helped curb
inflation expectations, a conclusion that may come into
question after the softer second-quarter productivity
performance.

This time, there was no reference to productivity and some
analysts predicted its weakening pace was one reason the Fed
will be obliged to raise rates again later this year.

“I’m a bit surprised to see the Fed saying inflation was
moderating while we are having signs, including today’s
productivity numbers, that inflation is not decelerating,” said
economist Tim Rogers of Briefing.com in Boston, adding he
expected rate rises to resume later this year.

Soaring gasoline costs and oil prices that topped $77 a
barrel earlier this week are causing anxiety among consumers.

RATE PINCH COMING

In recent speeches, Fed officials have cited softening data
and stressed the full impact of prior increases in overnight
interest rates had yet to be felt.

They have also expressed hope that slowing growth might
dampen upward price pressures.

“A sustainable, noninflationary expansion is likely to
involve a modest reduction in the growth of economic activity
from the rapid pace of the past three years,” Fed Chairman Ben
Bernanke told Congress last month in semi-annual testimony on
the state of the economy.

In the second quarter, the economy grew at an annual clip
of 2.5 percent, much slower than the brisk 5.6 percent pace in
the first three months of the year.

And last week, the government’s employment report showed
only 113,000 jobs were created in July, down from 124,000 in
June and below the first quarter’s monthly average 176,000.

In addition, the previously soaring housing sector has lost
altitude as would-be buyers face stiffer financing costs and
builders reduce groundbreaking in response to weakening sales.

Despite signs the expansion is losing steam, consumer
prices have kept rising.

The Fed’s preferred inflation gauge, the core personal
consumption expenditures price index, which excludes food and
energy, rose 2.4 percent in the year through June — well ahead
of the pace perceived to be the Fed’s comfort zone.