Fed decides economy still too weak to trim stimulus
Washington • In a surprise that sent the stock market soaring, the Federal Reserve concluded Wednesday that the U.S. economy isn't yet healthy enough for the central bank to ease its stimulus even slightly.
The Fed's cautious message pleased investors, who had expected a slight cut in the bond purchases, which have kept long-term interest rates low as the nation recovers from the Great Recession. Wall Street celebrated the prospect of continued low interest rates by lifting stocks to a record high.
In a statement after a policy meeting, the Fed signaled it has no set timetable for reducing the stimulus, which has stood at $85 billion a month for the last year.
Chairman Ben Bernanke explained later at a news conference that there are good reasons to be cautious:
• The Fed has yet to see conclusive evidence that the job market and economy are approaching full health.
• Mortgage rates have surged, and the bond purchases are needed to hold those rates down and keep home buying affordable for ordinary people.
• A budget stalemate in Congress and the threat of a government shutdown as soon as next month are holding back growth and putting the economy at risk.
"Conditions in the job market today are still far from what all of us would like to see," Bernanke said.
Stocks spiked immediately after the Fed released its statement at the end of its two-day policy meeting. The Dow Jones industrial average jumped 147 points, or 1 percent.
The Fed's decision to maintain the pace of its purchases raised hopes for lower rates on bonds and consumer and business loans. Bond yields sank. The yield on the 10-year Treasury note fell to 2.71 percent from 2.85 percent, the biggest one-day drop in nearly two years.
Since May, when Bernanke first signaled that the Fed could reduce its bond purchases this year, average rates on long-term fixed mortgages have climbed more than a full percentage point to near two-year highs. The average on the 30-year mortgage is at 4.57 percent, according to Freddie Mac.
There are signs that higher mortgage rates have made it harder for people to afford homes at a time when the rebound in the housing market has been a key pillar for the economy.
The Fed lowered its economic growth forecasts slightly for this year and next year. It predicts that the economy will grow just 2 percent to 2.3 percent this year, down from its forecast in June of 2.3 percent to 2.6 percent. Next year's economic growth will be a barely healthy 3 percent, the Fed predicts.
The Fed expect the unemployment rate to fall to between 7.1 percent and 7.3 percent by the end of 2013, slightly below its June forecast of 7.2 percent to 7.3 percent. It predicts that unemployment will fall as low as 6.4 percent next year, down from 6.5 percent in its June forecast.
In its statement, the Fed noted that rising mortgage rates and government spending cuts are restraining growth. It repeated a plan to keep key short-term rates near zero at least until unemployment falls to 6.5 percent from the current 7.3 percent.
"We're in a slow-growth economy with high unemployment and low inflation," said Greg McBride, senior financial analyst at Bankrate.com. "There's no specific catalyst for the Fed to remove stimulus."
David Robin, an interest rate strategist at Newedge LLC, said Fed policymakers were surprised by how fast rates rose after they raised the possibility of scaling back the bond purchases. They likely worried that rates would rise even more, and jeopardize the economy, if they reduced the bond buying.
Bernanke said the Fed is concerned that looming fights between Congress and the White House over the budget and taxes could slow the economy. Unless Congress can agree to fund the government past Oct. 1, a government shutdown will occur.
The government is also expected to reach its borrowing limit next month. Unless Congress agrees to raise the limit, the government won't be able to pay all its bills.
"This is one of the risks we are looking at," Bernanke said.
The decision to maintain its stimulus follows reports of sluggish economic growth. Employers slowed hiring this summer, and consumers spent more cautiously.
Super-low rates are credited with helping fuel a housing comeback, support economic growth, drive stocks to record highs and restore the wealth of many Americans.