Fed links interest rates to 6.5 pct. unemployment

Published on NewsOK Modified: December 12, 2012 at 6:51 pm •  Published: December 12, 2012
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WASHINGTON (AP) — The Federal Reserve said Wednesday that it plans to keep interest rates ultra-low even after unemployment falls close to a normal level — which it thinks could take three more years.

For the first time, the Fed made clear to investors and consumers that it will link its actions to specific economic markers. As long as inflation remains tame, the central bank said it could keep key short-term rates near zero, even after unemployment returns to a more typical rate.

Previously, the Fed said it expected to keep interest rates at record lows at least through mid-2015. Now it expects rates to stay low at least until unemployment drops below 6.5 percent — a threshold the bank believes may not be crossed until the end of 2015.

Analysts said the Fed's new guidance will make it easier for companies, investors and consumers to make financial decisions because they will have a clearer grasp of when borrowing costs will begin to rise.

"This approach is superior" to setting a timetable for a possible rate increase, Chairman Ben Bernanke said at a news conference after the Fed held a two-day policy meeting and issued a statement. "It is more transparent and will allow the markets to respond quickly and promptly to changes" in the Fed's economic outlook.

Though the Fed's low interest-rate policies are intended to boost borrowing, spending and stock prices, they also hurt millions of retirees and others who depend on income from savings.

Bernanke made clear that even after unemployment falls below 6.5 percent, the Fed might decide that it needs to keep stimulating the economy. Other economic factors will also shape its policy decisions, he said.

Economists regard a normal unemployment rate as 6 percent or less.

"The Fed has become more explicit and more transparent," said Steven Wood, chief economist at Insight Economics. "This should provide the markets with much more clarity around monetary policy action in the upcoming year."

In its statement, the Fed said it will also keep spending $85 billion a month on bond purchases to drive down long-term borrowing costs and stimulate economic growth.

The Fed will spend $45 billion a month on long-term Treasury purchases to replace a previous bond-purchase program of an equal size. And it will keep buying $40 billion a month in mortgage bonds.

Those purchases, and the Fed's commitment to low rates, are intended to spur borrowing and spending in an economy still growing only modestly 3½ years after the Great Recession ended.

Still, Bernanke warned that none of the Fed's actions could outweigh the economic pain that would be caused by sharp tax increases and government spending cuts that are set to kick in next month. The standoff between President Barack Obama and Republican lawmakers over how to resolve the "fiscal cliff" is already hurting the economy, in part by reducing consumer and business confidence, he said.

Fed policymakers are hopeful that the crisis can be resolved without significant long-term economic damage, Bernanke said. They foresee slightly faster growth next year and a gradual decline in unemployment.

Bernanke's comments about the impact of the fiscal cliff seemed to raise some concern among investors. Stocks had risen after the Fed's statement was released. But by the end of Bernanke's news conference, market averages were mixed. The Dow Jones industrial average closed down about 3 points. The Standard & Poor's 500 index rose fractionally.

With its new purchases of long-term Treasurys, the Fed's investment portfolio, which is nearly $3 trillion, will swell to nearly $4 trillion by the end of 2013 if its bond purchase programs remain fully in place.

The Fed's plan to keep stimulating the economy at least until unemployment has reached 6.5 percent is intended to reassure consumers, companies and investors about the health of the economy, said Joseph Gagnon, a former Fed official who is a senior fellow at the Peterson Institute for International Economics.



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