- Associated Press - Wednesday, June 23, 2010

WASHINGTON (AP) — The Federal Reserve suggested that Europe’s debt crisis raises a risk to the economy and pledged to hold rates at a record low level to make sure the recovery stays on track.

Wrapping up a two-day meeting Wednesday, the Fed in a 9-1 decision retained its pledge to hold rates at record-low levels for an “extended period.” Doing so will energize the rebound.

While not mentioning Europe by name, the Fed said that “financial conditions have become less supportive of economic growth … largely reflecting developments abroad.”

But the Fed has cause for optimism as well as caution. The economy has been growing again for nearly a year. Manufacturing activity is picking up. Businesses are spending more. And Fed Chairman Ben S. Bernanke has expressed confidence that the nation won’t fall back into a “double dip” recession.

At the same time, the recovery remains vulnerable to other threats in addition to Europe’s debt crisis: an edgy Wall Street, cautious consumers, a fragile housing market and high unemployment.

The Fed left its key bank lending rate at between zero and 0.25 percent. The rate has remained at that level since December 2008.

The Fed’s decision means rates on certain credit cards, home equity loans, some adjustable-rate mortgages and other consumer loans will remain low.

Ultralow rates serve borrowers who qualify for loans and are willing to take on more debt, but they hurt savers. Low rates are especially hard on people living on fixed incomes who are earning scant returns on their savings.

Still, if rock-bottom rates spur Americans to spend more, they would help energize the economy. That’s why the Fed also was expected to maintain its pledge, in place for more than a year, to keep rates at record lows for an “extended period.”

Dropping or weakening the extended-period language would have spooked Wall Street and businesses and could have crimped hiring, analysts said. “It is not the right thing to do now,” said Kurt Karl, chief U.S. economist at Swiss Re. “You don’t want to derail employment growth.”

In fact, given the risks to the recovery both at home and overseas, economists increasingly say the Fed probably won’t start boosting rates until next year — or possibly into 2012. That’s a change from a few months ago, when economists thought the Fed would begin raising rates at the end of this year.

The Fed has leeway to hold rates at record lows because inflation is essentially nonexistent.

Still, some inside the Fed who worry that easy money could spur inflation are already uneasy. One of them, Thomas Hoenig, president of the Federal Reserve Bank of Kansas City, dissented at the three previous meetings from the Fed’s decision to retain the “extended period” pledge.

Besides inflation, Mr. Hoenig has said he fears keeping rates too low for too long could lead to excessive risk-taking by investors, feeding speculative bubbles in the prices of assets such as stocks, bonds and commodities.

After suffering the worst recession since the 1930s, the economy has been growing for about a year. Yet the pace hasn’t been robust enough to drive down unemployment, now at 9.7 percent. The rate is expected to stay high through this year and next. As a result, consumers have been cautious about spending. In May, retail spending fell by the largest amount in eight months.

Surveying the situation, Capital Economics in a note to clients concluded, “Interest rate hikes still years away.”


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