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Fed leaves short-term interest rates unchanged at 40-year low

Wednesday, June 26, 2002

Associated Press WriterWASHINGTON (AP) -- The Federal Reserve left a key interest rate unchanged Wednesday, giving Americans more time to enjoy some of the lowest borrowing costs in four decades.

That might give consumers an incentive to spend and businesses motivation to step up investment in new plants and equipment. Both are crucial ingredients in helping along the economic recovery.

At the end of a two-day meeting, Federal Reserve Chairman Alan Greenspan and his Federal Open Market Committee colleagues decided to hold the federal funds rate -- the interest that banks charge each other on overnight loans -- at 1.75 percent, a 40-year low. It was the fourth consecutive time this year that policy-makers opted against changing rates.

The decision means commercial banks' prime lending rate -- a benchmark for many consumer and business loans -- will remain at 4.75 percent, the lowest level since November 1965.

The interest-rate decision did nothing to halt the stock-market slide that was only worsened by the latest questions about corporate accounting practices. The Dow Jones industrial average, already down 130 points for the day, lost another 60 points within 20 minutes of the Fed announcement.

The Fed, in a statement, said economic growth is continuing to increase but strength in consumer and business demand appears to have moderated.

Still, Fed policy-makers said they expect such demand "to pick up over coming quarters ... but the degree of the strengthening remains uncertain."

The Fed's decision to leave rates alone comes as the economy's recovery from last year's recession is shaping up to be spotty and the stock market is rocked by the latest accounting scandal involving telecommunications giant WorldCom.

Accounting scandals and worries about jobs helped to push Americans' confidence in the economy down in June to a four-month low.

"The market psychology right now is so fragile. The Fed doesn't want to do or say anything that would rock the boat and make confidence worse," said Sung Won Sohn, chief economist at Wells Fargo.

Recent economic reports confirm the recovery is slowing. Some economists suggest economic growth, as measured by the gross domestic product, will measure around 2.5 percent in the current quarter or lower. That would be down from the brisk 5.6 percent pace posted in the first three months of the year.

On the retail front, shoppers have shown less vigor recently. But Americans' appetites for homes has remained healthy thanks to low mortgage rates. New-home sales shot up 8.1 percent in May to a seasonally adjusted annual rate of 1.03 million, a record level, the Commerce Department reported Wednesday.

Consumer spending accounts for two-thirds of all economic activity in the United States. Consumers' willingness to keep their pocketbooks and wallets open in the coming months will be an important factor in the economic recovery's vitality.

Even though the unemployment rate dipped to 5.8 percent in May, the jobs market remains sluggish, and economists worry that could dampen consumer spending.

Manufacturing, after being knocked down by the recession, is back on its feet but isn't going gangbusters. Orders to U.S. factories for big-ticket items rose a solid 0.6 percent in May, another Commerce Department report showed.

Capital spending by businesses has yet to turn around, which means a key component to a sustained recovery is lacking, economists said. Deep cuts in spending on new plants and equipment helped push the economy into recession last year.

Companies whose profits took a hit during the slump are worried about the recovery's staying power and are reluctant to make big commitments, in spending or hiring, until they are convinced the turnaround is for real, analysts said.

Some economists worry that violence in the Middle East, tension between India and Pakistan, threats of new terror attacks on the United States and Enron-type accounting scandals will give companies another reason not to make big commitments.

Economists said that with inflation well-controlled, Fed policy-makers have leeway to keep rates low through the summer to bolster the economy.

Fed policy-makers, who slashed interest rates 11 times last year to rescue the economy from recession, have not changed the funds rate since December.

Some economists predict that the first interest-rate increase will come at the Fed's Sept. 24 meeting at the earliest; others say November or December. Still other analysts say there's a good chance rates may be left alone for the rest of the year.

------On the Net:

Federal Reserve: http://www.federalreserve.gov


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