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Fed has good reason to maintain steady course

Hours before the Fed chairman Ben Bernanke concludes the latest gathering of the Federal Open Market Committee on Wednesday, the U.S. government is scheduled to release its initial estimate of economic growth in the fourth quarter.

TAMI CHAPPELL/REUTERS

On the surface, all will appear calm at the Federal Reserve this week.

After deciding in December to tie future interest-rate decisions to the unemployment rate – a revolutionary change in the Fed's communications policy – U.S. central bankers have every reason to keep a steady course when they meet in Washington on Tuesday and Wednesday.

Of course, for the Fed, steady these days means charging ahead with the throttle wide open.

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Hours before the Fed chairman Ben Bernanke concludes the latest gathering of the Federal Open Market Committee, the government is scheduled to release its initial estimate of economic growth in the fourth quarter.

Most on Wall Street think U.S. gross domestic product advanced at an annual rate of about 1 per cent over the final three months of 2012, compared with 3.1 per cent in the third quarter.

More recent data suggest the slowdown at the end of last year was temporary. Still, it will take several quarters at least of 3 per cent growth to markedly lower the unemployment rate from its current level of 7.8 per cent. On Friday, the Labour Department will release its January jobless survey. Economists predict employers added about 150,000 jobs – decent, but not enough to reduce the unemployment rate. The Fed could tweak its qualitative description of the economy to reflect a slightly better outlook, especially in housing market, but it won't remove any stimulus.

That's not to say there won't be debate about when the Fed should do so. The minutes of the December meeting surprised many on Wall Street by revealing there is a significant minority on the policy committee that would scale back the Fed's asset-purchase program as early as mid-year.

The central bank currently is creating $85-billion (U.S.) to buy Treasuries and mortgage-backed securities. With its benchmark interest rate at zero, this program – called quantitative easing, or QE – is the most effective way the Fed has to keep downward pressure on borrowing costs.

But several Fed officials are worried that the central bank is overdoing it. The Fed now holds assets valued at more than $3-trillion – a lot of risk for a central bank to carry. Mr. Bernanke maintains that unwinding QE should not be that difficult. But others aren't so sure. That's why there's pressure to ease up on asset purchases.

One problem: The United States has barely recovered half the jobs lost during the recession. Until that gap narrows, the present issue of entrenched joblessness trumps the theoretical risks associated with QE.

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"The economy is not in a phase to wrap that up, even though they might like to," said Michael Ward of USForex, a foreign-exchange firm. "It's going to drag out."

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About the Author
Senior fellow at the Centre for International Governance Innovation

Kevin Carmichael is a senior fellow at the Centre for International Governance Innovation, based in Mumbai.Previously, he was Report on Business's correspondent in Washington. He has covered finance and economics for a decade, mostly as a reporter with Bloomberg News in Ottawa and Washington. A native of New Brunswick's Upper St. More

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