US freezes interest rates despite inflation concerns

The Federal Reserve held its key short-term rate steady yesterday and warned that, despite flagging growth in the first quarter, inflation remained the main worry of the central bank.

In its statement after a one-day meeting, the policy-setting Federal Open Market Committee announced its target rate for overnight federal funds was staying at 5.25 per cent, where it has been for almost a year.

In the statement accompanying the decision, the FoMC noted growth had weakened in the first three months of 2007. It said the slowdown in the housing market, the main drag on the US economy, was "ongoing" - implying that such problems could continue for a while yet. Nevertheless, it said, "the economy is likely to expand at a moderate pace in the future", while core inflation remained "somewhat elevated". For the Fed, "the predominating policy concern is that inflation will fail to moderate" in the months ahead. The Dow oscillated between positive and negative territory shortly after the news, before climbing 53.8 to 13,362.87, a new closing high.

"There is some concern at productivity growth at the Fed now, and that could make the inflation outlook more worrying," said Alfred Broaddus, a former chairman of the Richmond Federal Reserve bank. "But I think they're fairly satisfied with what's happening. If the housing weakness gets worse, on the other hand, that could trigger a further easing." The widely expected decision to hold rates reflected conflicting pressures on the economy - likened to a mild case of "stagflation", combining weak growth with persisting inflation. First-quarter GDP growth was just 1.3 per cent, the slowest in four years, held by sluggish exports and the slumping housing market.

According to a study by the National Association of Realtors, new and existing home sales could drop to a combined 7.15 million in 2007, from 7.53 million last year. Median home prices could decline in 2007, the first such decline since 1968.

Inflation remains at, or above, the Fed's implied maximum-target rate of 2.5 per cent. The weak dollar and surging petrol prices add to the bank's concern, as most forecasts point to an acceleration of growth back to 3 per cent by the end of 2007.