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Investors Await Fed's Views on Housing, Inflation Risks

Financial markets expect the Federal Reserve to hold benchmark interest rates steady Wednesday as the central bank gauges the impact of recent market turmoil and subprime mortgage woes while prices remain stubbornly high despite a softening economy.

Expectations for the Fed to cut rates later this year increased after a broad stock market decline and a slew of failures in the subprime mortgage industry.

But those expectations edged back after data showed high inflation, which would give the central bank less room to cut rates.

Markets are closely watching how the Fed will tweak its statement after the meeting, especially in regard to the housing market and inflation risks.

The Fed has held the overnight federal funds rate at 5.25% since last June after a two-year string of rate rises.

What the Fed is Considering:

  • Global stock markets have been roiled since late February, triggered by a sharp fall in the Shanghai stock market and exacerbated by reports of default troubles in the U.S. subprime mortgage sector, where loans are made to borrowers with weak credit histories.
  • The U.S. core consumer price index, which excludes volatile food and energy costs, rose 0.2% in February, following a 2.7% year-on-year rise in January.
  • Industrial production jumped 1.0% in February, but mainly on increased utility output due to cold weather.
  • Jobs data shows the labor market remains relatively tight. Non-farm payrolls showed an increase of 97,000 jobs in February, the smallest gain in two years, but job growth in prior months was revised higher. The unemployment rate edged down to 4.5% from 4.6%.
  • Other data shows the economy weakening. Retail sales rose just 0.1% in February while factory activity was sluggish. Consumer confidence fell to a six-month low in March, although the measure remained in the optimistic range.
  • U.S. gross domestic product expanded at a revised 2.2% in the fourth quarter, down from 3.5% growth in a prior estimate.
  • Housing starts data for February will be released on Tuesday.

What the Fed has Said:

  • Fed Chairman Ben Bernanke said on Feb. 28 that the sharp drop in U.S. and global stock markets at the end of February would cause "no material change" to the Fed's expectations for moderate economic growth.
  • Minneapolis Fed President Gary Stern said on March 9 that recent problems in the subprime mortgage market have not produce broader spillover yet, but that the impact of such disturbances have yet to be "fully stress-tested."
  • Chicago Fed President Michael Moskow said on March 7 that the risks of housing weakness cascading over to other sectors of the economy or dragging down consumer spending do not seem unduly large. He said, however, "there also are financial risks associated with the declines in housing markets. Notably, defaults on subprime mortgages could have a larger-than-expected effect on households and lenders."
  • In its semi-annual report to Congress in February, the FOMC forecast the economy to grow 2.5 to 3.0% this year, and for the price index for core personal consumption expenditures to rise 2.00 to 2.25% this year and then fall back to 1.75-2.00% in 2008.

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