Fed Grants Vacation From Rate Hikes Cooling Economy, Low Inflation Are Keys

The Federal Reserve gave American borrowers a vacation from higher interest rates, opting Wednesday to wait and see if the economy’s best inflation performance since the 1960s lasts deeper into the summer.

After a two-day meeting of its Federal Open Market Committee, the central bank signaled that it had left the benchmark federal funds rate on overnight loans between banks at 5.5 percent.

The decision had been widely expected and at first Wall Street showed little reaction. But the Dow Jones average of industrial stocks staged a late advance and came within about a point of breaking its June 20 record close. It finished the day at 7,795.38, up 73.05 points.

An increase in the benchmark rate would have quickly translated into higher borrowing costs for millions of businesses and consumers on everything from auto loans to credit cards. And that eventually would have slowed economic growth.

But Fed policy-makers apparently decided growth has slackened sufficiently on its own from a first-quarter surge at a 5.9 percent annual rate, fastest in nearly a decade. Most economists are looking for moderate, 2 percent growth in the April-June period.

Signs of a slowdown abound, including a Commerce Department report Wednesday that factory orders fell 0.7 percent in May, the second decline in three months.

The backlog of unfilled orders at factories was unchanged following decreases in April and March. That shows manufacturers were keeping up with the flow of new orders and that there is little danger for now of inflation-causing delivery delays and shortages.

“The easing in growth we’ve seen came just in the nick of time. If there was any evidence the economy was growing markedly greater than 2 percent, on top of the first quarter, I don’t see how they could have failed to raise rates,” said economist Paul Getman of Regional Financial Associates in West Chester, Pa.

The question before policy-makers at their Aug. 19 and Sept. 30 meetings will be whether growth bounces back in the second half of the year to the point where prices start accelerating.

So far this year, inflation has been decelerating. Consumer prices have risen at just a 1.4 percent annual rate, less than half last year’s. That’s the best performance in three decades and has astonished economists who believed it could not coexist with an unemployment rate at a 24-year-low of 4.8 percent in May.

“The inflation news is almost incredibly good in the face of what one would normally think of as inflationary growth numbers, especially the employment numbers,” said Norman Robertson, economic adviser to Smithfield Trust Co.

However, an economists panel of the American Bankers Association and the staff of the International Monetary Fund asserted recently that several factors that have restrained inflation are dissipating.

These include the strong dollar, which has held down import prices but has come down from a peak against the Japanese yen two months go, and weak demand overseas, which is ending as economies in Europe and Japan perk up.