Despite recent gloomy economic news, Federal Reserve officials appear unlikely to cut interest rates when they meet in a policymaking session Tuesday, according to analysts who follow the central bank closely.
Federal Reserve Chairman Alan Greenspan and several of his colleagues have said they believe the major factor holding back the economy is uncertainty about a war with Iraq. Such war fears have driven up world oil prices, curbed American consumers' buying power and made wary business executives less willing to hire workers or make new investments, the Fed officials believe.
At this point, with a final decision on war near, analysts said Fed policymakers will want to wait to see how the economy and financial markets react to the conflict before acting -- even though recent economic figures have generally been weak.
Yesterday, for example, the Fed reported that factory production fell 0.1 percent last month, on top of earlier reports showing drops in retail sales and the number of payroll jobs.
"Although Fed policymakers may be worrying more that Iraq is not the whole story behind a hesitant economy, we expect them to decide to stay on the sidelines next week, keeping their powder dry until after the invasion," said Peter Hooper, chief economist at Deutsche Bank Securities in New York. "But we do expect them to signal their readiness to act quickly in the coming weeks, if needed."
Since January 2001, the Fed has cut interest rates from 6.5 percent to 1.25 percent, their lowest level in more than 40 years. That cheap money fueled a boom in refinancing home mortgages and allowed carmakers to offer low- or no-interest car loans, prompting consumers to keep spending. That, in turn, has helped the economy withstand the bursting of the stock market and technology-investment bubbles, terrorism attacks, and struggling world trade.
Some analysts question whether additional interest cuts alone can boost the economy further, though Greenspan and his colleagues have said they believe rate reductions can continue to spur growth.
Hooper and many other forecasters responded to the series of recent weak economic reports by marking down their predictions for economic growth. "Continuing uncertainty has weighed on financial markets and the economy, and the prolongation of the agony has led us to trim our forecast of growth to a mediocre 2 percent pace," Hooper said, referring to expectations for the second quarter.
Other analysts agreed that Fed officials are likely to signal their readiness to cut the current target for overnight interest rates by saying in their post-meeting statement that the risk of excessive economic weakness is greater than the risk that inflation will increase. Since their rate cut last November, the officials have said those risks were balanced, as a signal they were not planning to cut the target further.
Although a small number of analysts predicted a quarter-point cut would come next week, prices of futures contracts for overnight interest rates indicated a sharp decline this week in the number of investors expecting a cut on Tuesday.
If the Fed were to decide later that a rate cut is needed, some analysts said it is more likely to be a half-point reduction, rather than a quarter-point.
"We do not expect an outright easing of policy next week," said economist Robert V. DiClemente of Salomon Smith Barney in New York. "But a rate-cut scenario -- entailing another half-point reduction -- would become highly likely in short order if the possible outbreak of war does not go neatly or if there are signs in the next month or so that pessimism is outlasting a favorable geopolitical outcome."
"Alternatively, continued standoff over Iraq probably would hasten Fed action as well, because the toll from uncertainty and higher energy prices continues to mount," DiClemente said.
Part of that toll was evident yesterday: A Labor Department report said producer prices for finished goods rose 1 percent last month, on the heels of a 1.6 percent rise in January. Prices for energy products shot up 7.4 percent last month and were 24.8 percent higher than in February 2002.
In contrast, the portion of the producer price index other than food and energy items, known as the core index, fell 0.5 percent last month and was only 0.1 percent above its level 12 months earlier. The drop in the core index was largely the result of the reinstatement of incentives by automakers to attract more buyers.
Producer prices for finished goods are those charged when a completed item is first sold. In some cases, such as gasoline, the increases are usually passed on quickly to retail buyers. In others, competitive pressures may limit any price increase at retail.
The continuing war worries, higher energy prices and a report last week that more than 300,000 payroll jobs were lost all continued to weigh on consumer attitudes, according to the University of Michigan's preliminary reading for this month's consumer sentiment index. It fell to 75, the lowest level since October 1992, from last month's final figure of 79.9.
A university analyst said the data suggest "that even after a quick and decisive victory, consumer spending will remain subdued through the balance of 2003."