Posted at 8:40 a.m., Tuesday, August 13, 2002

Fed leaves key interest rate unchanged

By Jeannine Aversa
Associated Press

WASHINGTON ­ The Federal Reserve left a key interest rate unchanged at a 40-year low today, but signaled that it stands ready to cut short-term rates if economic conditions worsen.

By keeping rates low or possibly nudging them down later, federal policymakers could expect consumers to be motivated to spend more and businesses to step up investment. Such a combination of circumstances would boost the recovery, which has lost momentum from the beginning of the year.

The Fed's decision comes amid economic uncertainties, a roller-coaster stock market and anxiety among Americans about the economy's direction.

A softening in consumer and business demand that emerged this spring "has been prolonged in large measure by weakness in financial markets and heightened uncertainty related to problems in corporate reporting and governance," the Fed said.

For now, Federal Reserve Chairman Alan Greenspan and his Federal Open Market Committee colleagues opted to hold the federal funds rate – the interest that banks charge each other on overnight loans – at 1.75 percent, the lowest level in four decades. It marked the fifth consecutive Fed meeting this year that policy-makers opted to leave rates alone.

However, the Fed changed the wording of its announcement today, saying that the greatest risk looking ahead is a further slowing of the economy, raising the odds of later rate cuts.

"The risks are weighted mainly toward conditions that may generate economic weakness," the Fed said.

Since its March meeting, the central bank's announcement indicated that economic risks were equally balanced between inflation and possible weak growth, a "neutral" policy stance.

The Fed's decision to hold the funds rate steady means that 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 Fed said that low rates "should be sufficient to foster an improving business climate over time."

After bolting out of the starting blocks at the beginning of the year, the economy lost momentum in the spring, growing at a rate of just 1.1 percent in the second quarter. That's down from the brisk 5 percent pace seen in the first three months of this year.

And, key economic reports suggest that the second half of the year is getting off to a disappointing start.

Manufacturing – hardest hit by last year's recession – slowed down considerably in July. Consumers' confidence in the economy sank again in July, reflecting worries about jobs, the wave of accounting scandals and the stock market decline. And, companies, unsure of the recovery's staying power, added a paltry 6,000 jobs last month, keeping the nation's unemployment rate stuck at 5.9 percent.

Sales at the nation's retailers rose by a brisk 1.2 percent in July, but much of the strength reflected people taking advantage of free-financing offers and other incentives to buy cars and trucks, according to a Commerce Department report today.

Shoppers trimmed spending on furniture and home furnishings, electronics and appliances, building and garden supplies, and clothes, the report showed. Home sales, meanwhile, have been solid, thanks to low mortgage rates.

While consumers haven't closed their wallets and pocketbooks through the recent turmoil, businesses have remained reluctant to make big commitments in hiring and capital spending, restraining the recovery. Consumer spending accounts for two-thirds of all economic activity in the United States.

The sputtering economy is posing a political challenge for President Bush, with Democrats sharpening their attacks on the administration's handling of the economy as the country heads into midterm elections.

At an economic forum that he convened today in Texas, Bush assured Americans today that his administration has a steady hand on the economy.

"Even though times are kind of tough right now, we're America," he said. "I'm incredibly optimistic about the future of this country because I understand the strength of this country. ... We got a lot going for us."