The Federal Reserve held the line on short-term interest rates Tuesday, dashing hopes among anxious investors that a life preserver of easier credit was coming soon.
“Although the downside risks to growth have increased somewhat, the predominant policy concern remains the risk that inflation will fail to moderate as expected,” the Fed said in a statement.
The Dow Jones industrial average fell 121 points after the Fed’s announcement but managed to end the day up 35.52 points, or 0.26 percent, to close at 13,504.30.
As the afternoon wore on, investors appeared to take a more positive view of a central bank confident that the economy could withstand turmoil in the credit markets.
Although the Federal Open Market Committee kept its benchmark lending rate fixed at 5.25 percent, it acknowledged potential pressures that could slow economic growth such as tighter credit markets and the ongoing housing slump.
“The Fed threw the markets a bone, commenting on recent financial-market volatility and tighter credit conditions. However, they gave no hint that they would act any time soon,” said Steven Wood, chief economist with Insight Economics in Danville, Calif.
The Federal Reserve is effectively telling markets that they are on their own in sorting out the problems they have created, said Bob Bush, founder of Eric Forecasting, an economic and fixed-income advisory service in Englewood.
“We are getting the same kind of contraction that we would have had in a normal interest-rate tightening cycle. It is not being created by the Fed but by the marketplace,” Bush said.
For fixed-income markets, excluding government Treasurys, July was the worst month since 1980, Bush said.
Mortgage markets, apart from those loans carrying an implied government guarantee, are essentially frozen, and the cost of corporate debt has shot up sharply in recent weeks.
Over the weekend, market pundit Jim Cramer made an impassioned plea to Fed Chairman Ben Bernanke to cut rates, chiding him for being clueless to the deep damage taking place in the financial markets – which he likened to Armageddon.
Bernanke follows a more academic approach that differs from the risk-management approach of former Chairman Alan Greenspan, who likely would already have cut rates, Bush said.
The Fed, which has considered economic growth in the 3 percent-to-3.5 percent range tolerable, may lower its expectations to the upper 2 percent area, said Scott Anderson, a senior economist with Wells Fargo Bank, in an analysis.
“Bottom line, there is less slack in the economy than the Fed previously thought, meaning it will take a longer period of sluggish growth to unwind inflation pressures,” Anderson said.
Investors who expected the Fed to throw them a lifeline, Anderson said, will need to keep treading water.
Staff writer Aldo Svaldi can be reached at 303-954-1410 or asvaldi@denverpost.com.
