Fed holds rates at record low to aid recovery By Jeannine Aversa Associated Press 01-27-2010

Fed holds rates at record low to aid recovery By Jeannine Aversa Associated Press 01-27-2010

Fed holds rates at record low to aid recovery
By Jeannine Aversa
The Associated Press
January 27, 2010

The Federal Reserve has decided to hold interest rates at a record low and pledged to keep them there for an "extended period" to nurture the economic recovery and lower unemployment.

The Fed made no reference to signs of improvement in the housing market, which it had after its previous meeting. The Fed said it still expects to end a $1.25 trillion program aimed at driving down mortgage rates as scheduled on March 31. But it reiterated that it remains open to changing that timetable if necessary.

Reports on home sales this week pointed to a still-fragile housing market.

One Fed member dissented from the decision to retain the pledge to hold rates at record lows. Thomas Hoenig, president of the Federal Reserve Bank of Kansas City, says the economy has improved sufficiently to drop the pledge, which has been in place for nearly a year.

Fed policymakers said economic activity has continued to "strengthen," the deterioration in the job market is easing and consumers are spending moderately. But they warned that high unemployment, lackluster income growth and tight credit could crimp that spending.

Against that backdrop, the Fed kept its target range for its bank lending rate at zero to 0.25 percent, where it's stood since last December.

In response, commercial banks' prime lending rate, used to peg rates on home equity loans, certain credit cards and other consumer loans, will remain about 3.25 percent. That's its lowest point in decades.

Super-low interest rates are good for borrowers who can get a loan and are willing to take on more debt. But those same low rates hurt savers. They're especially hard on people living on fixed incomes who are earning measly returns on savings accounts and certificates of deposit.

With the economy on the mend, the Fed this year can focus on how and when to pull back the stimulus money pumped out to fight the financial crisis. Fed Chairman Ben Bernanke will lead that effort now that has prospects for another four-year term have improved. The Senate is slated to vote on his confirmation on Thursday.

With credit clogs easing, the Fed said it plans to wind down by March 8 a program — dubbed the Term Auction Facility — that provides banks with low costs loans.

It also repeated its intentions of dismantling a handful of other emergency lending programs set up during the financial crisis on Feb. 1, when they are set to expire.

Most of them haven't been used in months by banks or other firms as credit conditions have improved. Those programs include Fed efforts to backstop the "commercial paper" market. This involves short-term financing used to pay salaries and supplies. Another program slated to end bolstered the money market mutual fund industry.

Fed programs to provide emergency loans to investment firms and another program for financial institutions to swap risky securities for super-safe Treasury securities also will end Feb. 1. And the Fed will be winding down a "swap" program with other central banks to provide them with U.S. dollars, which had been in high demand during the crisis.

The winding down of these programs shouldn't have much economic impact because most have fallen out of use.

But investors and consumers are paying more attention to a big economic revival program: the Fed's purchase of mortgage securities from Fannie Mae and Freddie Mac, as a way to keep mortgage rates down.

The Fed is on track to buy $1.25 trillion in those securities by the time the program is scheduled to end at the end of March. But the Fed hasn't ruled out continuing to buy mortgage securities after then to support the economy. Some fear that the end of the program will lead to higher mortgage rates, hobbling home sales and further damaging the still-weak housing market.


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Fed holds rates at record lows to foster recovery

This article can be found at: http://www.forbes.com/feeds/ap/2010/03/16/business-financials-us-fed-int...

By JEANNINE AVERSA , 03.16.10, 05:01 PM EDT


The Federal Reserve on Tuesday repeated its pledge to hold interest rates at record lows to foster the U.S. economic recovery and ease high unemployment.

But the Fed's assessment of the economy at its meeting Tuesday was a bit more upbeat. It said the job market is stabilizing. That was an improvement from its January statement, when it said the deterioration in the labor market was abating.

It also said business spending on equipment and software has risen significantly, also an upgrade from its last assessment. Still, the Fed cautioned that spending by consumers could be dampened by high unemployment, sluggish wage growth, lower wealth and tight credit. And it noted weakness in the commercial real-estate and home-building markets.

"The Fed painted the economy in a slightly brighter shade," said Stuart Hoffman, chief economist at PNC Financial Services Group. "It's been painted black for so long. Now, it is a lighter shade of gray."

The Fed held its target range for its bank lending rate at zero to 0.25 percent, where it's been since December 2008. In response, commercial banks' prime lending rate, used to peg rates on certain credit cards and consumer loans, has remained about 3.25 percent - its lowest in decades.

Super-low rates benefit borrowers who qualify for loans and are willing to take on more debt. But they hurt savers. Low rates are especially hard on people living on fixed incomes who are earning scant returns on their savings.

The Fed's pledge to keep record-low rates for an "extended period" relieved investors. The Dow Jones industrial average finished the day up nearly 44 points. Before the announcement, it had posted a gain in the single digits.

Prices for Treasurys rose slightly. The yield on the benchmark 10-year Treasury fell to 3.66 percent from 3.68 percent just before the announcement.

The Fed made no changes to a program to drive down mortgage rates and bolster the housing market, even as a government report Tuesday showed housing construction tumbling in February.

Under that program, the Fed is scheduled to end purchases of $1.25 trillion worth of mortgage-securities from Fannie Mae and Freddie Mac at the end of this month. Some analysts fear that once the program ends, mortgage rates could rise. That could weaken the recovery in housing and the overall economy. The Fed has left the door open to extending the program if the economy weakens.

"The Fed is keeping its powder dry in the event that mortgage markets are unable to pick up the slack left by the Fed's absence," said Brian Bethune, an economist at IHS Global Insight.

Hoffman thinks 30-year fixed mortgage rates, hovering around 5 percent, could rise to around 5.25 percent to 5.5 percent after the Fed program ends. That increase also would reflect stronger demand for mortgages as people rush to take advantage of a homebuyer tax credit that expires at the end of April.

The average rate on 30-year fixed mortgages dipped to 4.95 percent last week, from 4.97 percent a week earlier, according to mortgage finance company Freddie Mac.

The Fed's decision to keep record-low rates for an "extended period" - thought to mean six more months - again drew one dissent. Thomas Hoenig, president of the Federal Reserve Bank of Kansas City, for a second straight meeting opposed keeping the pledge.

This time, he expressed concern that low rates could cause a buildup of "financial imbalances" and put the economy's stability at risk. Some analysts took that to mean Hoenig worries that holding rates too low for too long could feed some new speculative bubble in assets such as stocks or commodities.

Hoenig's dissent illustrates the Fed's challenge in deciding when to signal that higher rates are coming. Hoenig thinks the economy is strong enough for the Fed to telegraph that rates will rise soon to prevent inflation or asset bubbles. But Fed Chairman Ben Bernanke and other colleagues think the low rates will continue to be needed to feed the economic recovery.

The Fed said the pace of the recovery will likely remain moderate. That means inflation is expected to stay in check, giving the Fed leeway to maintain record-low rates without triggering higher prices. The Fed wants to see job growth and lower unemployment before it considers a rate increase, analysts said.

The recession wiped out 8.4 million jobs. With companies still wary of ramping up hiring, the unemployment rate - now at 9.7 percent - is likely to stay high. Even though the jobless rate hasn't budged for two months and companies aren't cutting as many jobs as they did a year ago, hiring is tepid.

"The Fed is holding out for clearer signs of improvements in the labor market," said Anthony Chan, chief economist at JP Morgan's Private Wealth Management. "Until then, the Fed feels it needs the insurance policy of keeping rates low."

Once the recovery is more entrenched, the Fed will need to signal that higher rates will be coming.

To do that, the Fed could drop its commitment to keep rates at record lows for an "extended period." Or it could pledge to keep rates low only for "some time" or vow to keep "policy accommodative." Or it could change its language in some other way to stress that credit will be tightened when the time is right.

Any such step would signal that the days of easy money are fading.

Hoenig has been pushing to change the signal. At the Fed's last meeting in late January, Hoenig favored saying rates would stay low for "some time." He thought that would give the Fed more flexibility to start raising rates.

Hoffman and some other analysts say they don't think the Fed will signal a change toward higher rates until early summer, with a rate increase to follow in the fall. Chan thinks the Fed won't boost rates until next year.

David Wyss, chief economist at Standard & Poor's in New York, said the Fed will need to see the jobs crisis ease before it increases rates.

"The earliest that they will raise rates will be six months from now, and they could hold off for another year," Wyss said.

AP Business Writer Martin Crutsinger in Washington contributed to this report.

Copyright 2009 Associated Press. All rights reserved. This material may not be published broadcast, rewritten, or redistributed

What if interest rates don't rise?

This article can be found at: http://money.cnn.com/2010/03/24/news/economy/low.rates.fortune/index.htm

What if interest rates don't rise?
Bonds sold off Wednesday, but it may be a while before yields move return to pre-crisis levels.By Colin Barr, senior writer March 25, 2010: 9:25 AM ET

(Fortune) -- Here's a shocker: It could be years before U.S. finances are jolted by an interest rate shock.

Some forecasters are banking on rising interest rates. The Federal Reserve has kept its key short-term rate near zero since December 2008, but many economists believe a rate hike could take place as soon as later this year.

Credit rating agency Moody's said last week the price the government pays to borrow money for five years will nearly double between now and 2012. It warned that rising debt costs could constrain government policy in coming years. A bond market selloff Wednesday only intensified those concerns.

Yet even with governments around the globe issuing new debt at a record clip, interest rates may stay low for some time. Risk-averse investors are seeking out income-producing bonds and policymakers around the world are struggling to shore up domestic employment.

That's good in the short term, as low rates would help extend the current recovery and ease one source of pressure on the stretched federal budget.

At the same time, some warn that stable interest rates could create a replay of the housing bust, by letting Congress put off overdue action on the deteriorating U.S. fiscal position.

"We might hope that financial markets would save us from catastrophe by demanding higher interest rates on Treasurys, but that would require a degree of foresight that we haven't seen lately," Syracuse University budget expert Leonard Burman told a House Ways and Means Committee panel earlier this week.

Indeed, market players are showing increasing confidence that rates won't rise any time soon. The spread on a 10-year interest rate swap, reflecting the price an issuer of floating-rate bonds might pay to lock in a fixed rate, turned negative this week for the first time.

"I keep expecting a normalization, but the market is convinced the Fed is not going to do it," said Howard Simons, a strategist at Bianco Research in Chicago, about when the Fed might boost short-term rates.

In part, that's because a sustained recovery isn't in evidence at the moment, to say the least.

Unemployment remains near 10%, and inflation -- widely considered the great threat arising out of government support for the economy -- is not only low but falling.

Consumer prices excluding food and energy rose just 1.3% in the year ended in February, the government said this month. That number is even lower if you look at the latest six months of data, said Joseph Gagnon, a senior fellow at the Peterson Institute for International Economics in Washington.

Anxious to avoid a replay of Japan's deflationary lost decades, the Fed could come under pressure in the second half of this year to expand its purchases of long-term bonds if the rate of inflation keeps falling, Gagnon said.

"The Fed is going to tighten much later than people seem to think," he said.

The Fed isn't the only factor. Two market crashes in the past 10 years have soured many investors on stocks for good. Huge sums of money have poured into bond funds over the past year, bolstering prices in the face of a massive increase in supply.

The bond vigilantes have visited Ireland and Greece, selling European bonds and pushing their rates higher. But some doubt they are in any hurry to lay siege to the market for U.S. government bonds. After all, they have to keep their money somewhere.

"To flee from something you need an alternative," said Simons. "Your alternatives now are what, exactly?"

What's more, policymakers both here and abroad have incentives to keep funds flowing into the United States.

Though U.S. borrowing and China's undervalued currency are widely viewed as unsustainable, the current arrangement suits both parties at a time when both fear any setback could halt a weak recovery.

"Rates may stay low because our foreign lenders have an incentive to keep enabling our borrowing habit," Burman told the House panel Tuesday. "The money they lend us fuels our giant trade deficit, which in turn props up their economies."

That cycle could ultimately lead to a re-enactment of the housing bust, in which the bond market remains placid until a crisis makes credit all but unobtainable -- ultimately forcing massive, indiscriminate government spending cutbacks and another economic downturn.

Even if it doesn't come to that, Japan's lost decades show that low-rate policies are far from foolproof. Japanese 10-year notes recently yielded 1.35% and haven't been above 2.15% in more than a decade, Simons noted.

"Did anyone think Japan would still be stuck here in 2010?" he asked.

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