The Fed’s Open Market Committee

THE BE YOUR OWN ECONOMIST ® BLOG

Today the Fed’s Open Market Committee decided to leave unchanged the interest rate at which banks lend reserves to one another (http://www.federalreserve.gov/newsevents/press/monetary/20080625a.htm).

The Fed’s press release said:

“The Federal Open Market Committee decided today to keep its target for the federal funds rate at 2 percent.

“Recent information indicates that overall economic activity continues to expand, partly reflecting some firming in household spending. However, labor markets have softened further and financial markets remain under considerable stress. Tight credit conditions, the ongoing housing contraction, and the rise in energy prices are likely to weigh on economic growth over the next few quarters.

“The Committee expects inflation to moderate later this year and next year. However, in light of the continued increases in the prices of energy and some other commodities and the elevated state of some indicators of inflation expectations, uncertainty about the inflation outlook remains high.

“The substantial easing of monetary policy to date, combined with ongoing measures to foster market liquidity, should help to promote moderate growth over time. Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased. The Committee will continue to monitor economic and financial developments and will act as needed to promote sustainable economic growth and price stability.”

The following sentence seemed to summarize the Fed’s view:

“Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased.”

A year ago the Fed believed inflation was the greater risk, then changed its mind and began to consider recession as the gravest threat. Now the pendulum appears to have swung back to inflation.

What if the economy does deteriorate further before inflation moderates? What will the Fed do then? It’s hard to say.

© 2008 Michael B. Lehmann