The U.S. central bank Tuesday decided to leave short-term interest rates unchanged at their lowest levels in 40 years. The Fed says there is risk of an economic slowdown, suggesting that rates may fall further in coming months.
Financial markets correctly predicted that the central bank would leave short-term rates unchanged. However, the statement highlighting the risk of future weakness sent stock markets lower. The markets had not anticipated a shift toward an easing bias in monetary policy.
Susan Phillips, a former Federal Reserve governor now Dean at George Washington University, believes the Fed did the right thing. "The employment situation is not all that weak. We've had strong auto sales. I think we're at a point of change. The economy could tail down or it could strengthen in the fall. So I think they did the right thing."
Some analysts say if signs of economic weakness become apparent, the central bank could reduce interest rates in advance of its next monetary policy meeting September 24.
Earlier Tuesday, the government reported a one point four percent rise in retail sales in July, an advance in line with market expectations. Auto sales were up sharply in part because of zero percent interest financing incentives offered by the major car companies.
The Federal Reserve cut short-term rates to stimulate the economy 11 times during the course of 2001. Low short-term rates have meant lower long-term rates with 30-year mortgage interest rates near their lowest levels in decades. Low mortgage rates have prompted a wave of home refinancings, with consumers having lower monthly payments and thus more money for discretionary spending.
The U.S. economy endured a mild and relatively short recession last year but this year's rebound has been timid by historical standards. The stock market has been declining, removing trillions of dollars from the economy. U.S. economic growth this year is expected to be no more than two and a half percent.