WASHINGTON – The Federal Reserve said Wednesday that the U.S. economy “paused” in recent months because of temporary factors and reaffirmed its commitment to try to stimulate growth by keeping borrowing costs low for the foreseeable future.
The Fed took no new action at its two-day policy meeting. But it stood behind aggressive steps it launched in December to try to reduce unemployment, in a statement released after the meeting.
In December, the Fed said it would keep its key short-term interest rate at a record low at least until unemployment falls below 6.5 per cent. Unemployment is currently 7.8 per cent. And the Fed said it would keep buying $85 billion a month in Treasurys and mortgage bonds to try to keep borrowing costs low and encourage spending.
The Fed’s decision to continue its stimulus programs was largely expected and had little impact on stock and bond prices.
Earlier in the day, the Commerce Department said the economy unexpectedly shrank at an annual rate of 0.1 per cent from October through December. The first quarterly drop in growth since the final months of the Great Recession was mainly because companies restocked at a slower rate and the government slashed defence spending.
In its statement, the Fed said “economic activity paused in recent months, in large part because of weather-related disruptions and other transitory factors.”
Despite the slowdown, the statement noted that hiring continued to expand at a moderate pace, consumer spending and business investment increased and the housing sector showed further improvement. And it said strains in global financial markets have eased somewhat, but cautioned that risks remain.
The statement made no mention of deep cuts in defence and domestic spending that will take effect in March if Congress and President Barack Obama don’t reach a deal to avert them. Those cuts threaten to keep growth weak in 2013.
Diane Swonk chief economist at Mesirow Financial, suspects the minutes of the meeting, which will be released in three weeks, will reveal some concerns members hold about the budget issues’ impact on the economy.
“The Fed is very cognizant about how it characterizes the economy,” Swonk said. “They are worried about a self-fulfilling prophecy of talking the economy down too much.”
The statement was approved on an 11-1 vote. Esther George, the president of the Federal Reserve Bank of Kansas City, cast the lone dissenting vote. George, who is a new voting member, expressed concerns about the risk of higher inflation caused by the Fed’s aggressive policies.
In December, the Fed signalled for the first time that it will tie its policies to specific economic barometers. Fed Chairman Ben Bernanke made clear during a news conference that even after unemployment falls below 6.5 per cent, the Fed might decide that it needs to keep stimulating the economy. Other economic factors will also shape its policy decisions, he said.
The guidance was designed to give consumers, companies and investors a clearer sense of when super-low borrowing costs might start to rise.
The Fed also said it would continue its bond purchases until the job market improved “substantially.”
When it buys bonds, the Fed increases its investment portfolio and pumps more money into the financial system — something critics say could eventually ignite inflation or create dangerous bubbles in assets like real estate or stocks.
On Friday, the government will release its jobs report for January. The unemployment is expected to remain 7.8 per cent. That still-high rate, 3 1/2 years after the Great Recession officially ended, helps explain why the Fed has kept its key short-term rate at a record low near zero since December 2008, just after the financial crisis erupted.
Still, some private economists think the Fed will decide to suspend its bond purchases in the second half of this year. They note that the minutes of the Fed’s December meeting revealed a split: Some of the 12 voting members thought the bond purchases would be needed through 2013. Others felt the purchases should be slowed or stopped altogether before year’s end.