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The Honolulu Advertiser
Posted on: Wednesday, December 11, 2002

Interest rates unchanged

By John M. Berry
Washington Post

WASHINGTON — Federal Reserve officials, expecting economic growth to accelerate again in a few months, left their key 1.25 percent target for overnight interest rates unchanged at a policymaking meeting yesterday.

The low target rate, "coupled with still robust underlying growth in productivity, is providing important ongoing support to economic activity," the central bank's top policymaking group, the Federal Open Market Committee, said in a statement issued after the meeting.

The move continues what has been welcome news for Hawai'i consumers and the state's economy.

The continued low interest rates will likely keep consumers spending on everything from cars to homes, helping boost business and tax revenues in a sluggish Hawai'i economy.

With the Fed's move to leave rates the same, it means the prime lending rate — the benchmark for thousands of consumer and business loans at Hawai'i banks — will remain at 4.25 percent, its lowest since May 1959.

The cheaper borrowing costs have already been fueling a housing and construction boom — one of the bright spots in the state's economy — that has seen a 14.3 percent jump in the number of building permits in the state during the past year, said Pearl Imada Iboshi, the state's chief economist.

Construction jobs have grown 2 percent during that same period, compared to a 2 percent decline in jobs overall. Tax revenues from contracting have increased 15 percent in the first nine months of 2002 compared to the same year-ago period.

"The low interest rates that we have had have been extremely favorable to home buyers and people who are refinancing their existing mortgages," said Lloyd Sodetani, principal broker in charge at Maui Realty Co. Inc. in Wailuku.

Sodetani said demand has been so high, that the time to close the sale on a home has nearly doubled from 60 days to as much as 120 days because lenders, appraisers and even termite inspectors are backlogged with orders.

In deciding to leave rates unchanged yesterday, Fed officials said they expect growth to pick up.

"The limited number of incoming economic indicators since the November meeting, taken together, are not inconsistent with the economy working its way through its current soft spot," the statement said.

Many private forecasters predict that growth will be back into the 3.5 percent to 4 percent range in the second half of 2003 — without additional interest rate reductions or further income tax cuts, which President Bush is expected to propose next month.

The most important threat to better growth in the near future is the serious uncertainty about the possibility of war with Iraq. Many business executives are reluctant to commit to investing in new plants and equipment, or to rebuilding their low levels of unsold goods in their inventories, until that uncertainty is reduced.

"Is the glass half empty or half full? Both," said Peter Hooper, chief economist for Deutsche Bank Securities Inc. in New York. "Half empty in the sense that the U.S. economy has not yet emerged from the soft patch it slipped into during the summer. We seem to be sputtering along ... for now. Half full in the sense that key indicators show enough signs of firming to say we are not at imminent risk of a second downturn and prospects for faster growth ahead still seem reasonably good."

Hooper predicts growth will drop back to a 1.3 percent annual rate in the final three months of this year, from a 4 percent rate in the July-September period. That slowing helped push the nation's jobless rate to 6 percent last month, matching last April's figure as the highest level since 1994. But Hooper also expects growth to increase early next year and reach a 4 percent pace by the middle of the year.

Other economists, such as James Glassman at J.P. Morgan Chase Securities in New York, are not so optimistic, but expect growth strong enough in the second half of the year to begin to bring the politically sensitive jobless rate down.

After reducing the target to 1.75 percent from 6.5 percent in 11 steps last year, the committee cut it by another half-percentage point early last month. At 1.25 percent, the target is at its lowest level in more than 41 years.

If growth does not accelerate, or if a war with Iraq erupts and threatens the U.S. economy, such as through a spike in oil prices or a sharp drop in spending by consumers, Fed officials have indicated they would cut their federal funds rate target aggressively to boost the economy and ward off a dangerous decline in the prices of goods and services known as deflation.

On the other hand, with inflation seen as no threat, analysts expect the Fed to keep rates low until a solid expansion in economic activity has clearly taken hold. The principal sign of that probably would be a substantial rise in business investment. Only at that point would the Fed begin to raise the target once more.

In the J.P. Morgan Chase forecast, for instance, the Fed is expected to raise the target by a quarter-percentage point at midyear and another half point during the following three months.