Huffpost Business
Bonnie Kavoussi Headshot

Federal Reserve Keeps Interest Rates Low, Downgrades Assessment Of American Economic Recovery [UPDATE]

Posted: Updated:
BERNANKE
AP

UPDATE:

Federal Reserve Chairman Ben Bernanke said on Wednesday that the Federal Reserve's monetary policy will remain essentially unchanged, even as the economic recovery slows.

He said that the Federal Reserve still plans to let their economic stimulus program to expire at the end of June and keep interest rates low, although the Federal Reserve has downgraded their projections for economic growth in the United States in 2011 and 2012.

Bernanke said that although the Federal Reserve expects the unemployment rate to continue to decline, the rate of decline will remain "frustratingly slow."

--
PREVIOUSLY:

The Federal Reserve has just acknowledged a truth: The federal government is running out of options to prop up the country's weakened economy.

Federal Open Market Committee (FOMC), the committee that decides Fed policy, has just released a cautious plan to address the slowing economy. Federal Reserve Chairman Ben Bernanke is expected to announce no major changes to monetary policy at a follow-up press conference at 2:15 p.m. ET.

Federal Reserve officials announced that the Fed will keep interest rates as low as before to encourage lending, in light of weaker economic growth than they had expected, according to The Wall Street Journal. They also confirmed that they are planning to end their most recent bond-buying plan, dubbed "quantitative easing" or QE2, on June 30 as planned.

In QE2, the Federal Reserve has gradually bought $600 billion in Treasury notes this past year, in a last-ditch attempt to boost consumer confidence.

Giving away $600 billion -- which is meant to cycle through banks to consumers and businesses through lending -- is supposed to make consumers and businesses feel wealthier, encouraging them to spend more and creating a so-called “wealth effect."

But consumers and businesses have not acted as the Fed predicted. Instead consumers continued to limit their spending and banks have not resumed lending as much as they did before the financial crisis, causing the cycle of lending and spending that keeps the economy going to remain stifled.

Stocks on Wall Street opened lower Wednesday morning as anxiety lingered among investors. The Dow Jones Industrial Average, the S&P 500 and the NASDAQ uniformly declined on Wednesday morning, according to Reuters.

A report released today by investment bank Keefe, Bruyette, & Woods said it believes it is highly unlikely the Federal Reserve will hint at a future bond-buying effort to support the economy, since it could undermine the Fed's credibility and stoke inflation fears. Core inflation has risen 0.9 percent since last October, according to the report, and a new bond-buying effort would be expected to raise prices further.

Partly because of the disappointing results of QE2, the Fed most likely has decided that the risks of a new bond-buying program would outweigh the benefits. The Fed had expected consumers and businesses to ratchet up spending by the end of June, but instead the economy continues to falter, according to The New York Times' Binyamin Applebaum.

As the Fed runs out of options, the central bank now is stuck in a "zone of inaction" as economic growth slows and inflation picks up, according to a report released on Tuesday by Goldman Sachs. Since the Federal Reserve must meet a dual mandate -- limit inflation and keep unemployment down -- and since Bernanke has tried to use all of the weapons in his monetary arsenal without stoking inflation fears, investors expect Bernanke to take a cautious stance Wednesday afternoon.

Investors will pay close attention to Bernanke's description of the economy in words and numbers, according to the Washington Post's Neil Irwin, since the Federal Reserve is expected to downgrade its forecast of economic growth for the rest of the year. The central question, Irwin writes, is how strongly the Federal Reserve believes that the causes of the slowdown in growth are only "temporary."

The Federal Reserve has tried to make up for general inaction from Congress and the White House on addressing the economic slowdown, but now it appears that the Fed, too, will start to step off the playing field. Nonetheless, Bernanke is expected to ask Congress to avoid steep spending cuts that would hurt the economic recovery, eventually come up with a feasible long-term solution to the government's debt crisis and raise the debt ceiling, according to Bloomberg News.

Around the Web

Stocks Mostly Flat Ahead of Fed Statement

Dollar rises against euro and pound ahead of Federal Reserve decision

Crude Oil Falls Before US Supply Report; Goldman Sees 'Choppy' Prices

Treasuries rise ahead of Fed meeting