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At their last meeting Jan. 28-29, Fed officials reaffirmed their decision in December to keep short-term rates at super-lows at least as long as unemployment stays above 6.5 percent. The Fed's benchmark rate for overnight bank lending has remained at a record low near zero since December 2008. The Fed also repeated its plan to keep buying bonds to lower long-term rates until the job market had improved "substantially." One reason for the Fed's reluctance to reduce its stimulus is the history of the past three years. In each of the three, economic prospects looked promising as the year began. Yet in each case, the economy stumbled. In 2010, U.S. growth was hurt by turmoil from Europe's debt crisis. In 2011, a spike in gas prices and supply disruptions caused by Japan's earthquake and tsunami dampened growth. And in 2012, higher gas prices cut into consumer spending. Though the economy has brightened this year, it still faces threats, including across-the-board government spending cuts that took effect March 1 and are expected to trigger furloughs and layoffs. Those spending cuts, along with the Social Security tax increase and higher taxes on top earners, are expected to cut growth in half this year, according to the Congressional Budget Office. The CBO predicts that the drag will slow growth by 1.5 percentage points, to 1.5 percent. "There are still question marks over the economy," says David Wyss, former chief economist at Standard & Poor's and now a professor at Brown University. "Things are looking a little better, but they are not better enough to make the Fed change anything significantly." As for concerns that the Fed's easy-money policies will escalate inflation, Wyss suggests looking at Japan, which has pursued similar policies for 20 years without triggering runaway prices. The bigger danger in Japan remains the opposite threat of deflation
-- a prolonged period of falling prices. David Jones, chief economist at DMJ Advisors, expects the Fed's policies to remain intact this week and at its April meeting. But he says policymakers might signal at their June meeting that they're considering some changes in their bond-buying program. "I think the June meeting will be the one that really counts," Jones says. "At that time the Fed might consider at least tapering its $85 billion in bond purchases to a smaller level." Whenever the Fed announces that it's ending some aspect of its easy credit, Jones says he expects the news to jolt financial markets, causing rates on long-term Treasurys to rise and stock prices to drop. "The Fed has artificially depressed long-term interest rates and artificially boosted the stock market for such a long period of time and by such a large amount, that no one can predict how much financial market instability will occur at the first hint they are pulling back on accommodation," Jones says.
[Associated
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