Weak US GDP unlikely to end Fed's easy money policy soon

NEW YORK, Jan 30 (Reuters) - An unexpected contraction in the U.S. economy in late 2012 should dispel fears that the Federal Reserve will soon end its aggressive monetary expansion, economists said on Wednesday.

With the Fed due to end a policy meeting on Wednesday, the Commerce Department reported U.S. gross domestic product fell at a 0.1 percent annual rate in the last three months of 2012 after growing at a 3.1 percent clip in the third quarter. This was the first contraction in the U.S. economy since a recession ended more than three years ago.

Stock, bond and currency markets largely shrugged off the unexpectedly weak growth data early Wednesday, in part because of the belief that the report has too many caveats to truly reflect a weakening growth trend, and also because it reduces fears that the Fed will reduce its stimulative efforts.

The Fed is expected to maintain its current policy of buying more securities when Wednesday's meeting ends even as behind-the-scenes debate about when to wind it down continues.

Western Union Business Solutions analyst Joe Manimbo said the report "dashes hopes among some investors that the Fed will move away from an ultra-easy monetary policy."

But don't expect it to clip the wings of the central bank's more hawkish officials, who worry about the long-term risks of expanding the central bank's $2.9 trillion balance sheet.

"On the margin, it probably doesn't change what people inside the Fed are thinking," said Michael Hanson, senior U.S. economist at Bank of America Merrill Lynch. "The hawks will look at this as a one-off, while the doves will see it as further evidence that the economy isn't growing fast enough."

The central bank is buying $85 billion a month in assets through its third quantitative easing program as it tries to keep borrowing costs low and prop up the economic recovery.

It has also pledged to hold benchmark interest rates near zero until the unemployment rate falls to 6.5 percent, as long as inflation does not threaten to break 2.5 percent.

Minutes from the Fed's last meeting in 2012 showed that several officials thought it would be appropriate to slow or stop asset purchases before the end of 2013.

"I think it's a bit of a blow (to the hawk argument)," said Eric Lascelles, chief economist at RBC Global Asset Management in Toronto. "It certainly makes for a hard argument to remove stimulus in the near term if simultaneously the economy is technically shrinking."

U.S. Treasury bond yields have been rising recently, with the 10-year benchmark now above 2.0 percent for the first time since April. Bond market analysts expect the Fed to gradually remove some monetary stimulus, and the expectations for economic growth have fed a heavy flow of cash into equity markets throughout January.

Despite fears that the Fed's expansion of the money supply may spur inflation, so far there has been little evidence of rising prices, with Wednesday's data showing a tepid 1.2 percent advance in prices in the fourth quarter.

Some tied the surprise contraction in the fourth quarter to one-time events: a severe storm that caused extensive damage to the East Coast in October and a drawn-out debate over tax policy that may have suppressed hiring and spending.

"If it turns out that Sandy and the fiscal cliff were the reasons for this, people will shrug it off," said Wayne Kaufman, chief market analyst at John Thomas Financial in New York.

What's more, recent U.S. housing and employment data has been encouraging. A report Wednesday showed U.S. private-sector employers added a larger-than-expected 192,000 jobs in January.

(Additional reporting by Leah Schnurr and Jonathan Spicer)