Fed message: Economy unlikely to improve this year

[June 21, 2012]  WASHINGTON (AP) -- The economy we've got today is more or less the economy we've got for the rest of the year.

That's the message from the Federal Reserve, which has sharply reduced its forecast for U.S. growth. It sees unemployment barely budging in the rest of 2012.

The Fed also says the economy is under threat from Europe's debt crisis and from the prospect of sharp spending cuts and tax increases that will kick in at year's end unless Congress acts.

None of which is comforting for companies, job seekers or President Barack Obama, whose re-election hinges in part on whether the economy improves between now and November.

Until recently, many economists were hopeful that the economy would strengthen in the second half of the year. But optimism is fading as hiring and growth have slowed for a third straight spring.

To prod businesses and consumers to borrow and spend more, the Fed said at the end of a two-day policy meeting Wednesday that it would extend a program designed to drive down long-term interest rates. It also reiterated plans to keep short-term rates at record lows until at least late 2014. And it said it's ready to do more to jolt the economy if necessary.

"If we're not seeing a sustained improvement in the labor market, that would require additional action," Bernanke said in his quarterly news conference.

Here's how a weak economy for the rest of the year could affect some categories of Americans:

--Job seekers

People looking for work aren't expected to enjoy much better opportunities in the rest of 2012. The Fed thinks the unemployment rate will fall no lower than 8 percent by year's end. It's now 8.2 percent.

American employers have become wary of hiring. They added just 69,000 jobs in May. Since averaging a healthy 252,000 a month from December through February, job growth has slowed to a lackluster 96,000 a month. And Fed officials and other economists don't think hiring will accelerate in coming months.

--Retirees and savers

The Fed's continued plan to keep short-term rates super-low through 2014 isn't happy news for people who depend on investment income. When the Fed keeps the rates it controls at record lows, rates throughout the economy generally stay low, too. That's why money market funds are paying rates barely above zero -- well below inflation.

Anyone willing to lend money to the U.S. government over the next 10 years stands to receive about 1.6 percent interest. That's just about what the consumer inflation rate has been for the past 12 months. In exchange for buying long-term U.S. Treasurys, these investors will manage merely to run in place.

--President Barack Obama

Obama's re-election bid is getting no help from the economy -- the core issue in the presidential campaign. The president's political team has been hoping the unemployment rate would drop by Election Day well below the roughly 8 percent level where the Fed thinks it will be at year's end. With job growth slumping, the president must make the tough case that it would improve in a second Obama term.

Still, unemployment might not be quite the threat to Obama that it appears. Unemployment rates in seven of the 10 battleground states that will likely determine the election are lower than the national average. That trend could blunt Republican candidate Mitt Romney's effort to capitalize on weak job growth to defeat Obama.

--Borrowers

The one group of Americans who are big winners in the Fed's low-interest-rate campaign are borrowers. They are, that is, if they meet tightened credit standards for consumer and business loans.

The average national rate nationally on a fixed-rate 30-year mortgage is just 3.71 percent. That's scarcely above the 3.67 percent average earlier this month -- the lowest since long-term U.S. mortgages were introduced in the 1950s.

Mortgage rates have been sinking because they tend to track the yield on the 10-year Treasury note. Anxiety about Europe's debt crisis has led many investors to buy U.S. Treasurys, which are considered ultra-safe despite their puny yields. When demand rises for Treasurys, their yields fall.

On Wednesday, the Fed said it thinks the economy will grow between 1.9 percent and 2.4 percent this year, sharply less than in its previous estimate in April. And it's roughly the annual pace at which most economists think the economy is growing now.

"All economists have shaved down their forecasts for this year," said Sung Won Sohn, an economics professor at the Martin Smith School of Business at California State University.

Sohn said his own forecast was in line with the Fed's. He said he was surprised the Fed didn't downgrade its unemployment outlook even more based on its forecast for economic growth.

Even so, "If the Fed's forecast unfolds, that would be bad news for incumbent politicians," Sohn said. "If I were President Obama, I would be worried."

Some political strategists expect the picture the Fed sketched of the economy to play into Romney's hands.

"If I'm Mitt Romney, I immediately use Bernanke's comments to make the case that what I've been saying is right: Barack Obama isn't working, the stimulus has failed and the only way to take us out of this is to make a change in the White House," said Joe Brettell, a Republican strategist.

He said Romney's message is simple: "I'm the guy who can fix the problem."

Most people think the biggest problem is unemployment. Brian Bethune, an economics professor at Gordon College in Massachusetts, said he thinks the unemployment rate will end the year at 8.1 percent or 8.2 percent.

Bethune thinks the Fed might decide by early fall that the economy needs some aggressive new step, such as another bond buying program. The Fed has completed two such programs. It bought more than $2 trillion in Treasurys and mortgage-backed securities.

If such a program were launched and helped boost the economy, it could end up benefiting job seekers and perhaps Obama's re-election chances.

"If we are still seeing these terrible employment numbers," Bethune said, "then the Fed is going to have to consider another move. The economy can't just flop along at this level."

Bethune said the problem for incumbents like Obama is that perceptions about the economy tend to freeze about six months before an election -- even if the economy improves after that.

Even so, economists note that continued declines in oil and gas prices could spur growth by giving consumers more spending power.

On Wednesday, the Fed said it will continue a program called Operation Twist through year's end. Under the program, the Fed has been selling $400 billion in short-term Treasurys since September and buying longer-term Treasurys. The Fed said it will extend Operation Twist using $267 billion in securities.

But it might not provide much benefit. Businesses and consumers who aren't borrowing now at historically low rates aren't likely to do so just because rates dipped a little more.

David Jones, chief economist at DMJ Advisors, estimates that extending Operation Twist will lower long-term rates by only about one-tenth of a percentage point.

[Associated Press; By MARTIN CRUTSINGER]

Associated Press writers Paul Wiseman, Christopher S. Rugaber and Philip Elliott contributed to this report.

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