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Mon, May 05, 2003 - Page 12 News List

US Reserve will hold rates at forty-year low

POSTWAR FOCUS Another interest cut could spark fears that the Fed is desperate to avert a Japanese style deflationary spiral, as economists await the peace dividend


US Federal Reserve policymakers will hold interest rates at a four-decade low this week, banking on a postwar rebound despite weak economic data, analysts predicted.

Policymakers, meeting tomorrow, would be nervous about plunging businesses and consumers into gloom by announcing that the economy needs another boost from a cut in interest rates, they said.

In any case, it was too soon after the Iraq war for Federal Reserve chairman Alan Greenspan and fellow policymakers to get a clear enough picture of the economy to act.

"The central bank will stand pat at the May 6 meeting. With the conclusion of the war, the economy should improve," Wells Fargo and Co chief economist Sung Won Sohn said.

US President George W. Bush was switching the postwar focus to the economy, raising the likelihood of a substantial tax-cutting boost to activity, Sohn said.

"Another round of interest rate cuts now could backfire," the economist warned.

People living on fixed incomes were already suffering and an interest rate cut also could spark fears that the Federal Open Market Committee (FOMC) is trying to stave of a Japan-style deflationary spiral.

The FOMC target for the key federal funds rate, which commercial banks charge each other, stands at just 1.25 percent.

"There will be no change in Fed policy, in part because the financial markets have largely withstood this batch of troubling economic news," said Moody's Investors Service chief US economist John Lonski.

Wall Street shrugged off news Friday that the unemployment rose to 6.0 percent as businesses axed 48,000 jobs. A private survey this week also showed US manufacturing fell deeper into a slump in April.

Corporate bonds also had largely recovered after being priced as risky by the market, Lonski said.

"I do not think that the Fed is in any rush to cut a federal funds rate that is already at 1.25 percent, perhaps because the Fed does not want to inflict any more damage on what is left of the money market fund industry or savings deposits," Lonski said.

"Monetary policy has been very successful at propping up household expenditures be it through last year's record-breaking home sales or through the latest unprecedented surge by mortgage refinancings."

Greenspan told lawmakers April 30 he believed that the US economy was poised for a postwar recovery, although business nerves remained an obstacle.

"I continue to believe the economy is positioned to expand at a noticeably better pace than it has during the past year, though the timing and the extent of that improvement remains uncertain," he said.

Six weeks after the first shots of the Iraq war, economic readings were mixed, said the 77-year-old central bank chief. "Unfortunately, the future path of the economy is likely to come into sharper focus only gradually."

The FOMC may deliver a similar message about the foggy state of the economy, Lonski predicted.

At their last meeting March 18, the policymakers, leaving interest rates unchanged, issued a statement saying the huge uncertainties over the Iraq war made it impossible to assess the risks ahead.

"The Fed might again make the same statement that the proximity of the military conflict in Iraq renders it nearly impossible to describe the underlying pace of economic activity with any sense of clarity or confidence," Lonski said.

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