Fed Says Hold-Em
Subject Stabilization Policy
Topic Monetary Policy
Key Words Recession, Inflation, Economic Growth
News Story

The Federal Reserve's Open Market Committee, the Fed's policy-making group, voted to hold interest rates at present levels at their March meeting. Fed officials noted that the economy "is expanding at a significant pace." A recovery is well underway, the Committee noted, and further interest rate cuts are unlikely. What will happen to economic growth later this year "is still uncertain", according to the Fed's forecast.

The Federal Reserve had cut interest rates 11 times in 2001. At its January meeting, the Federal Reserve Open Market Committee (FOMC), while not opting for a 12th cut in interest rates, warned that the risk of economic weakness outweighed that of added inflation. A spate of strong economic data led the FOMC at its March meeting to reassess its position. The Fed now believes that a recovery is underway and that the risks to the economy are evenly balanced between weakness and inflationary growth.

Barring a dramatic change in the economic outlook or financial conditions, the Fed believes in changing course gradually in order to avoid destabilizing financial markets. By shifting its focus away from the risks of recession, the FOMC statement was giving financial markets a warning that it was reversing a previous position concerning interest rates. Many analysts believe that if additional data continue to point to strong economic growth, the Fed will signal its intention to start raising interest rates in May and then do so at its June meeting.

The outlook for recovery is uncertain. Although many analysts are expecting the economy to expand at a annual rate of up to 5 percent in the first quarter, Fed officials are warning that the recovery may be weaker than in the past. This is due to a reluctance on the part of business firms to invest heavily in new equipment.

(Updated May 1, 2002)

1. What is the composition of the Federal Reserve's Open Market Committee? Why is the FOMC located in New York?
2. What are the two opposing economic problems that the FOMC cites? What is the risk of delaying interest rates hikes? Explain.
3. What are the instruments of monetary policy that the Fed might use to raise interest rates? How would they operate?
Source Richard W. Stevenson, "Fed Leaves Rates Steady; Hints Increases May Be Coming," The New York Times, March 20, 2002.

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