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Fed holds rates steady
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May 20, 1997: 5:22 p.m. ET
Economists say lack of inflation is overwhelming factor in decision
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NEW YORK (CNNfn) - The U.S. Federal Reserve on Tuesday decided to leave short-term interest rates unchanged, further confirming that economic growth is moderating and inflation remains subdued.
The last time central bankers met on March 25, the policy-setting Federal Open Market Committee (FOMC) raised the inter-bank, overnight lending rate -- known as the federal funds rate -- by 25 basis points to 5.5 percent.
On Tuesday, the FOMC chose to leave the fed funds rate at 5.5 percent, and the discount rate, at which the Fed lends to money-center banks, at 5.0 percent.
The decision came after the economy showed its strongest growth in 10 years, with gross domestic product surging 5.6 percent in the first quarter. But since then, a series of economic reports have indicated that growth was slowing and inflation was abating.
"It was a closer call than some people will say. But the reality is, there are signs the economy is slowing," said Philip Braverman, chief economist at DKB Securities.
News of the Fed's decision reversed investor sentiment on Wall Street, driving blue-chips into positive territory for the first time during the session. The Dow Jones industrial average was up 37.50 at 7,266.38 in the minutes following the announcement.
Many Fed observers determined the central bankers were under unprecedented political pressure to leave rates unchanged. This was said to be especially true for Chairman Alan Greenspan, who has previously had an overwhelming say in policy-setting matters.
Since his December remarks warning investors of "irrational exurberance" in the financial markets, politicians have sharply criticized the central banker, arguing low interest rates were need to further fuel the growth needed to balance the budget deficit.
"The Fed has more or less backed away from this pre-emptive approach that they talked so much about in recent months. In fact, the Senate could say that Alan Greenspan & Co. caved in to the political criticism on Capitol Hill that we saw emanate over the last few weeks," said William Sullivan, economist at Dean Witter Reynolds Inc.
Though the financial community was split on the outcome of Tuesday's meeting, many economists agreed that inflation served as the central gauge in the Fed's decision-making process.
"The reason was the benign inflation data," said Anthony Chan, chief economist at Banc One Investment Advisors, referring to the April consumer and producer price index reports.
Some economists attributed the low inflation in part to an increasingly global economy. "Increasingly, the Fed will recognize that prices are set outside of the U.S.," Braverman said.
To be sure, many people who were looking for a rate hike Tuesday ascribed their conclusions to the dollar's recent weakness, especially against the Japanese yen. The greenback has slid over 10 percent in value against the yen just this month alone.
But Chan believes Fed officials are content for now with allowing market forces to determine currency rates rather than attempting to prop up the U.S. currency.
The FOMC is scheduled to reconvene in six weeks to determine monetary policy once again. Already, at least one economist predicts Greenspan will choose once more not to change rates.
"The Fed is done for the year," said DKB Securities' Braverman, who predicts second-quarter economic growth of 2.0 percent -- too little, he believes, to cause the Fed concern.
-- Robert Liu
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U.S. Federal Reserve
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