Fed Lifts Key Rate, Confident In Growth

By Nell Henderson
Washington Post Staff Writer
Wednesday, September 21, 2005

Federal Reserve officials expressed confidence yesterday that Hurricane Katrina has caused no more than a temporary setback to the U.S. economy, allowing them to raise their key short-term interest rate another notch to make sure inflation stays under control.

As the federal government and insurance companies begin to put tens of billions of dollars into Gulf Coast reconstruction, Fed policymakers expressed more worry about rising inflation pressures than slower economic growth and indicated that they will probably keep raising interest rates in the months ahead.

Private economists are forecasting that the economy will gain more from the reconstruction spending than it has lost because of the storm.

In an unusually long and sympathetic statement released after their meeting, Fed officials noted "the widespread devastation in the Gulf region . . . and the boost to energy prices" resulting from the storm, which displaced thousands of area residents, wiped out hundreds of thousands of jobs, disrupted shipping systems throughout the Mississippi Valley and shut down much of the nation's oil and gasoline production.

In the first week after Katrina hit, economists worried that consumers and businesses might react to soaring energy prices by sharply pulling back on spending plans, triggering a sudden slump. Some Fed officials were open then to the possibility of leaving interest rates unchanged for a while because of the uncertainty of the economic outlook.

But since then, energy production has recovered somewhat, while oil and gasoline prices have come down from their post-Katrina peaks.

By yesterday, Fed officials had concluded that national consumer spending, employment and overall economic growth "will be set back in the near term" because of the storm.

Looking out over the months ahead, they added, "while these unfortunate developments have increased uncertainty about near-term economic performance, it is the [Fed's] view that they do not pose a more persistent threat."

Rather, Fed officials said, low interest rates continue to stimulate economic growth, while "higher energy and other costs have the potential to add to inflation pressures."

Already, prices have climbed for building materials and transportation services. Economists are watching closely to see how successful other businesses are at raising consumer prices to cover their higher energy costs. That may become easier at a time when consumers say they are expecting higher inflation than they did before Katrina.

The central bank's top policymaking group, the Federal Open Market Committee, was more divided yesterday than it has been in more than two years. Nine of the 10 voting members, including Chairman Alan Greenspan, agreed to raise their benchmark federal funds rate to 3.75 percent from 3.5 percent.

Fed board member Mark W. Olson voted against the move, saying he preferred to leave the rate unchanged -- the first dissent on the committee since June 2003.

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