Fed sees economy on ‘firmer footing’


Federal Reserve policy makers said the recovery is gaining strength and that higher energy prices will have a temporary effect on inflation, while reaffirming plans to buy $600 billion of Treasuries through June.

“The economic recovery is on a firmer footing, and overall conditions in the labor market appear to be improving gradually,” the Federal Open Market Committee said Tuesday in its statement after a one-day meeting in Washington. The effects of higher fuel and commodity costs on inflation will be “transitory,” and officials “will pay close attention to the evolution of inflation and inflation expectations,” the Fed said.

The statement represents an upgrading of the outlook by Fed Chairman Ben S. Bernanke and his colleagues, who removed language that the recovery is “disappointingly slow” and that “tight credit” is holding back consumer spending. Policy makers went out of their way to acknowledge higher commodity prices while dismissing any inflation danger.

“This statement takes QE3 off the table, as they are taking off the downside risk in deflation and saying the economy is on track,” John Silvia, chief economist at Wells Fargo Securities in Charlotte, N.C., said in a reference to speculation that the Fed might embark on a third round of quantitative easing. “They are coming to the view that the economy has improved over time. They are going to finish QE2. There is no need for more stimulus at this point.”

Even so, the statement echoed a cautionary note from the prior release, saying that “the unemployment rate remains elevated, and measures of underlying inflation continue to be somewhat low, relative to levels that the Committee judges to be consistent, over the longer run, with its dual mandate” for stable prices and maximum employment.

The Fed left its benchmark interest rate in a range of zero to 0.25%, where it’s been since December 2008, and retained a pledge in place since March 2009 to keep it “exceptionally low” for an “extended period.” Officials next meet April 26-27 in Washington.

Payrolls have increased by an average 134,000 a month for the past five months and the unemployment rate has dropped by almost 1 percentage point over three months to 8.9% in February, the lowest since April 2009. Still, the pace of job growth is too slow for officials including New York Fed President William Dudley, who said in a speech last week that a “substantial pickup is sorely needed.”

The average U.S. retail price of regular unleaded gasoline rose to $3.56 a gallon this week, the highest since October 2008.

“Commodity prices have risen significantly since the summer, and concerns about global supplies of crude oil have contributed to a sharp run-up in oil prices in recent weeks,” the Fed said. “Nonetheless, longer-term inflation expectations have remained stable, and measures of underlying inflation have been subdued.”

The Fed’s preferred price gauge, which excludes food and fuel, rose 0.8% in January from a year earlier, matching December’s year-over-year gain, the lowest in five decades of record-keeping. Fed officials aim for long-run overall inflation of 1.6% to 2%.

One gauge of inflation expectations has approached levels from before the financial crisis intensified in 2008. The breakeven rate for 10-year Treasury Inflation Protected Securities, which is the yield difference between the inflation- linked debt and comparable-maturity Treasuries, declined to 2.45 percentage points yesterday since reaching 2.57 points on March 8, the highest since July 2008, Bloomberg data show.

Gasoline and other “highly visible” commodities have shown “significant increases” since the U.S. summer, Mr. Bernanke said in congressional testimony March 1. “The most likely outcome is that the recent rise in commodity prices will lead to, at most, a temporary and relatively modest increase in U.S. consumer price inflation,” Mr. Bernanke said.

The FOMC decision was unanimous for a second consecutive meeting. That means Dallas Fed President Richard Fisher and Philadelphia Fed President Charles Plosser, both skeptics of the second round of so-called quantitative easing who voted for the statement today, don’t disagree strongly enough with the path of policy to dissent.

Fed Governor Kevin Warsh, who resigned in February effective at the end of March, didn’t attend Tuesday’s meeting in accordance with FOMC practice.

Mr. Bernanke, in two days of congressional testimony this month, reiterated the Fed’s outlook that while growth will accelerate this year, he still wants to see a “sustained period of stronger job creation.” He has avoided indicating what the Fed’s next step will be after finishing the $600 billion of purchases.

“While indicators of spending and production have been encouraging on balance, the job market has improved only slowly,” Mr. Bernanke, 57, a former Princeton University economist, said March 1 and March 2 in semiannual hearings on monetary policy.

“The economy still needs help,” said former Fed Governor Lyle Gramley, now senior economic adviser at Potomac Research Group in Washington. “Inflation hasn’t risen to a point where something like” the monetary stimulus “would be counterproductive,” Mr. Gramley said before the announcement.

The central bank, through the New York Fed’s traders, is halfway through the purchases, having bought about $304 billion of Treasuries as of March 9. The total is about $419 billion including securities bought by reinvesting proceeds of maturing assets from the $1.7 trillion first round of purchases of mortgage debt and Treasuries.

The Fed chairman has tried to take credit for higher stock prices and lower corporate-borrowing premiums since the central bank started talking about the second round of quantitative easing. In the testimony, he dated gains to two events in August — the FOMC’s decision to stop the securities portfolio from shrinking by reinvesting maturing mortgage debt and a speech signaling the possibility of QE2.

The Standard & Poor’s 500 Index increased 15% from Aug. 10 through Monday. For investment-grade corporations, the difference between companies’ rates and comparable government securities has narrowed to 1.51 percentage point on March 11 from 1.88 point on Aug. 10, according to Bank of America Merrill Lynch index data.

Yields on 10-year Treasuries declined to 2.57% on Nov. 3, when the Fed announced the second round of asset purchases, from 2.76% on Aug. 10. They were up to 3.36% Monday. Mr. Bernanke said the initial drop reflected investor expectations of Fed buying. Yields later rose “as investors became more optimistic about economic growth and as traders scaled back their expectations of future securities purchases,” he said in the congressional testimony.

At the last FOMC meeting in January, policy makers raised projections for economic growth this year and made few changes to forecasts after 2011. They also made little change to projections for unemployment and inflation.

U.S. retail sales increased in February by the most in four months, the Commerce Department said March 11. Further gains may be tempered by concerns over higher fuel prices that helped push consumer confidence to a one-month low in the week to March 6, according to the Bloomberg Consumer Comfort Index.

Expectations for the inflation rate in one year rose to 4.6% in March from 3.4% in February, according to the Thomson Reuters/University of Michigan consumer sentiment survey released March 11.

Atlanta Fed President Dennis Lockhart said in a March 7 speech that he doesn’t expect consumer-price inflation to accelerate because of the rise in food and energy costs. Speaking to economists in Arlington, Va., Mr. Lockhart said he is “very cautious” about further asset purchases, while not ruling out the possibility because turmoil in the Middle East and Africa risks slowing the U.S. economy.

Pleasanton, Calif.-based Safeway Inc., the fourth- largest U.S. supermarket chain by stores, expects that 2011, “while it will be a challenging year,” will be “much better” than 2009 or 2010, Chief Executive Officer Steven Burd said March 8.

“The economy will improve, but only moderately,” Mr. Burd said at the company’s investor conference. “We’re not looking for any kind of a hockey-stick curve here.”

In Congress, lawmakers are debating how to cut spending to reduce a record budget deficit. After the federal rescues of home-finance providers Fannie Mae and Freddie Mac cost taxpayers $154 billion, politicians are also starting to consider ways to reduce support and tax subsidies for the housing market, which the FOMC described as “depressed” in December and January’s statements.

“During a time when we’re trying to create jobs, why in good God’s name would you start to talk about changing policy and tax implications for new-home purchases?” Robert Toll, chairman of Horsham, Pennsylvania-based Toll Brothers Inc., the largest U.S. luxury-home builder, said on a Feb. 23 conference call with investors.

Purchases of new houses in the U.S. fell more than forecast in January and are running at about one-fifth of the record rate in 2005. Housing starts climbed 15 percent to a 596,000 annual rate, a pace that is still less than one-third the homebuilding boom’s peak of 2.27 million in 2006.

Other parts of the economy are strengthening. Manufacturing grew in February at the fastest pace in almost seven years, while orders to U.S. factories climbed in January by the most in more than four years, reports this month showed.

Japan’s earthquake, which disrupted cooling systems at nuclear reactors, “certainly introduces yet another wild card or potential risk that’s out there,” said Stephen Stanley, chief economist at Pierpont Securities in Stamford, Conn., before the Fed announcement.

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