Fed keeps US interest rates on hold

Central bank stands ready to cut, saying weakness of American economy is now the greatest threat

The United States central bank last night ended weeks of speculation as it left interest rates on hold but opened the door to further cuts later this year. The Federal Reserve kept rates at a four-decade low of 1.75 per cent but warned the risks of an economic slowdown outweighed the threat of inflation.

This shift in outlook ­ dubbed the Fed's "bias" on Wall Street ­ is seen as a clear signal policymakers are prepared to cut rates if the outlook worsens.

The decision was broadly expected on Wall Street, where a poll of 22 banks showed 17 expected the Fed would keep rates steady for the rest of the year. However, the markets reacted gloomily with the Dow Jones index ending down 2.4 per cent at 8,482.39.

The Fed said the decision of its open market committee was unanimous. "The current accommodative stance of monetary policy, coupled with still-robust underlying growth in productivity, should be sufficient to foster an improving business climate over time," it said.

"Nonetheless, the committee recognises that, for the foreseeable future, against the background of its long-run goals of price stability and sustainable economic growth and of the information currently available, the risks are weighted mainly toward conditions that may generate economic weakness."

Alan Greenspan, the Fed's chairman, appeared to lay the blame for the weak economy on the string of accounting scandals. "He is laying the economic weakness on Main Street at the door of problems on Wall Street," one analyst said.

Alan Ruskin, a research director of New York analysis firm 4cast, said the way was clear for a rate cut on 24 September. "This was vintage Greenspan ­ he made the least worst decision," he said. "A rate cut could have set off a panic, while not altering the bias would have given the impression the Fed believed nothing had changed."

Last night's decision ends a month of see-sawing speculation over whether the next move in rates would be up or down.

Until a couple of weeks ago most analysts believed the Fed was preparing to start raising rates as the US and world economies started to rebound. But a string of disappointing economic news sparked concern the economy could slip into a "double dip" recession. Stocks dived as a spate of accounting scandals undermined hopes of a firm recovery in the business sector.

This massive erosion of wealth for American investors in turn stoked fears households could not continue to spend and borrow at the pace that had sustained the economy through the worst of the downturn. Then major revisions to GDP estimates showed the economy plunged into recession deeper and earlier than thought and has since struggled to recover. Figures for July showed the manufacturing sector practically ground to a halt while virtually no new jobs were created. Business and consumer confidence faltered.

However, the enthusiasm for rate cuts faded almost as soon as it had arrived. There was a fall in the number of jobless claims and figures just hours ahead of last night's decision showed a robust rise in retail sales.

The Fed's deliberations coincided with a presidential economic forum in Waco, Texas ­ the Bush administration's latest effort to reassure investors and consumers the economy's foundations are solid.

Meanwhile talk of rate cuts switched to euroland in the wake of a sharp plunge in optimism over the German economy. An expectations indicator based on a survey of more than 300 analysts suffered its strongest fall in two years.