Fed expected to leave rates unchanged; balance sheet in focus

[July 26, 2017]  By Jason Lange

WASHINGTON (Reuters) - The Federal Reserve is expected to hold interest rates unchanged on Wednesday and possibly hint that it will start winding down its massive holdings of bonds as soon as September in what would be a vote of confidence in the U.S. economy.

The U.S. central bank will issue its latest rates decision following the end of a two-day policy meeting at 2 p.m. EDT. Economists expect the Fed's benchmark lending rate to remain in a target range of 1.00 percent to 1.25 percent.

That would mark another pause in the monetary tightening campaign that the Fed began in December 2015. The central bank has raised rates twice this year, including at its last policy meeting in June.

Wall Street analysts see little chance the Fed will announce the start of the wind down of its $4.5 trillion balance sheet. However, the Fed's policy statement may provide more visibility on when that might occur.

Citibank economists said in a note to clients that the Fed's rate-setting committee was more likely to say that the trimming would start soon. "(That would) signal that the committee plans to announce balance sheet reduction in September," they said in the note.

Reducing the balance sheet will unwind one of the Fed's most controversial tools used to fight the 2007-2009 financial crisis and its aftermath.

After pushing rates nearly to zero in a bid to boost investment and hiring, the Fed pumped over $3 trillion into the economy through purchases of U.S. Treasury securities and government-backed mortgage debt to further reduce rates. That program drew criticism from Republican lawmakers in Congress.

The Federal Reserve Building stands in Washington April 3, 2012. REUTERS/Joshua Roberts/File Photo

The subsequent economic recovery, marked by strong and steady job gains, has pushed the U.S. unemployment rate to 4.3 percent, near a 16-year low. Fed policymakers have said labor market strength could eventually push inflation too high.

The Fed recently signaled it would begin to trim its balance sheet this year. Yellen said earlier this month that process could begin relatively soon and economists polled by Reuters expect the announcement will come in September.

But a slowdown in inflation this year has caused jitters among some Fed officials who are already concerned that inflation has been below the central bank's 2 percent target for five years.

The Fed's preferred measure of underlying inflation dropped to 1.4 percent in May. It was 1.8 percent in February.

(Reporting by Jason Lange; Editing by Paul Simao)

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