WASHINGTON – In a surprise, the Federal Reserve has decided against reducing its stimulus for the U.S. economy because its outlook for growth has dimmed in the past three months.
The Fed said it will continue to buy $85 billion a month in bonds while it awaits conclusive evidence that the economy is strengthening. The Fed’s bond purchases are intended to keep long-term borrowing rates low to boost spending and economic growth.
“Conditions in the job market today are still far from what all of us would like to see,” Chairman Ben Bernanke said at a news conference shortly after the statement was released.
Stocks spiked after the Fed released the statement at the end of its two-day policy meeting. The Standard & Poor’s 500 index and Dow Jones industrial average jumped to record highs. The Dow was up more than 100 points shortly after the statement was released.
In the statement, the Fed said that the economy is growing moderately and that some indicators of the job market have improved. But it noted that rising mortgage rates and government spending cuts are restraining growth.
The Fed repeated its plan to keep its key short-term rate near zero at least until unemployment falls to 6.5 per cent from the current 7.3 per cent. In the Fed’s most recent forecast, unemployment could reach that level as soon as late 2014.
The Fed’s short-term rate indirectly affects many consumer and business loans.
“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.”
The Fed was widely expected to scale back its bond purchases. But long-term rates on mortgages and some other loans have jumped since May, when Bernanke first said the Fed might slow its bond buys later this year. Bernanke had cautioned that any reduction in purchases would hinge on the economy showing steady improvement.
David Robin, an interest rate strategist at Newedge LLC, said Fed policymakers were surprised by how fast interest 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.
At his news conference, Bernanke said there’s “no fixed schedule” date or “magic number” for when the Fed will slow or end its bond purchases.
In its statement, the Fed said the rise in mortgage and some other loan rates in recent months “could slow the pace of improvement in the economy and labour market” if they’re sustained.
Bernanke also 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 Fed lowered its economic growth forecasts for this year and next year slightly, likely reflecting its concerns about interest rates. It predicts that the economy will grow just 2 per cent to 2.3 per cent this year, down from its forecast in June of 2.3 per cent to 2.6 per cent growth.
Next year’s economic growth will be a barely healthy 3 per cent, the Fed predicts.
The Fed’s policymakers expect the unemployment rate to fall to between 7.1 per cent and 7.3 per cent by the end of 2013, slightly below its June forecast of 7.2 per cent to 7.3 per cent. It predicts that unemployment will fall as low as 6.4 per cent next year, down from 6.5 per cent in its June forecast.
The Fed’s policy statement was approved on a 9-1 vote. Esther George, president of the Federal Reserve Bank of Kansas City, dissented for the sixth time this year. She repeated her concerns that the bond purchases could fuel high inflation and financial instability.
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. But the average rate on the 30-year mortgage has jumped more than a full percentage point since May and was 4.57 per cent last week — just below the two-year high.
Investors had bid up those loan rates on expectations that the Fed would reduce its stimulus as early as this month.
John Canally, investment strategist at LPL Financial, suggested that financial markets had overreacted in anticipation of reduced bond purchases.
Higher rates “started to impact the real economy, and (the Fed) got a little bit concerned.”
Economists suggested that the Fed will still eventually scale back its bond buying, perhaps before year’s end.
“Tapering will come sooner rather than later, assuming that the economy co-operates,” Sung Won Sohn, an economist at California State University Channel Islands, wrote in a research report. “The economy is steady, though not strong, and is moving in the right direction
The unemployment rate is now 7.3 per cent, the lowest since 2008. Yet the rate has dropped in large part because many people have stopped looking for work and are no longer counted as unemployed — not because hiring has accelerated. Inflation is running below the Fed’s 2 per cent target.
The Fed meeting took place at a time of uncertainty about who will succeed Bernanke when his term ends in January. On Sunday, Lawrence Summers, who was considered the leading candidate, withdrew from consideration.
Summers’ withdrawal followed growing resistance from critics. His exit has opened the door for his chief rival, Janet Yellen, the Fed’s vice chair. If chosen by President Barack Obama and confirmed by the Senate, Yellen would become the first woman to lead the Fed.
AP Economics Writers Paul Wiseman and Christopher S. Rugaber contributed to this report.