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Dec 18, 12:05 AM EST

Why the Fed thinks US economy still needs its help


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WASHINGTON (AP) -- If you didn't know about the lingering damage from the Great Recession, the U.S. economy would appear remarkably strong.

The unemployment rate is a close-to-healthy 5.8 percent. Inflation is unusually low. Crashing oil prices are rewarding consumers with a tax cut of sorts.

Yet the Federal Reserve made clear Wednesday that it's eyeing those improvements with caution. The Fed isn't yet convinced it can start to pull away its stimulus of record-low interest rates.

Though the Fed has kept its key rate near zero for nearly six years to encourage borrowing, spending and investment, the economy has yet to fully repair the destruction from its worst crisis in 80 years.

Many workers remain trapped in part-time jobs. Paychecks are barely rising. Home ownership is dropping. Slumping oil prices have reduced inflation to a level so low it could eventually discourage spending and further stifle wage growth.

So the U.S. central bank declared it would be "patient" in deciding when to raise its benchmark rate from a record low, where it's been since December 2008.

"There is no preset time," Fed Chair Janet Yellen explained at a news conference.

Her message was that the strength of U.S. economic data and the level of inflation, not a calendar deadline, will dictate when the Fed ultimately raises rates. At a time of global economic turmoil and collapsing oil prices, Yellen stressed that the central bank was making no policy changes.

"They're doing what everyone else is doing - following the data and trying to anticipate where we'll be six months or a year from now," said Seth Masters, chief investment officer for Bernstein Global Wealth Management.

Most economists think the Fed's first rate increase will occur in June as long as its inflation outlook doesn't remain persistently below its target rate of 2 percent. In an updated economic outlook, the Fed lowered its inflation forecast for next year to between 1 percent and 1.6 percent.

Because inflation remains so low, Yellen said she would be comfortable waiting until the unemployment rate fell from its current 5.8 percent to historically low levels to help put upward pressure on prices.

Uncertainty about when the economy will fully heal from the ravages of the Great Recession is why the Fed's policy statements remain somewhat vague.

"What they're trying to say is they need to have some wiggle room," Masters said. "They don't want to rope themselves into making a decision that might look extremely stupid three or six months down the road."

On Wednesday, stock investors cheered the Fed's strategy. The Dow Jones industrial average, which had been up about 160 points before the Fed issued its statement, roared higher to close up 280 points. The stock market tends to applaud low rates because they make it easier for individuals and businesses to borrow and spend, and they cause many investors to shift money into stocks in search of higher returns.

Energy prices have plunged since the Fed last met in October, with oil hitting a five-year low. That price drop is reducing inflation further below the Fed's 2 percent target, which could heighten the pressure to delay a rate hike until inflation rebounds. On Wednesday, the government said consumer prices rose just 1.3 percent in November compared with 12 months ago.

But Yellen noted that oil price spikes in the past had only temporarily raised inflation and suggested that a corresponding drop will likely also have only a "transitory" effect on inflation.

She was more optimistic about the benefits of lower oil prices for the U.S. economy.

"The decline we have seen ... is likely to be on net a positive," Yellen said. "It's something that's certainly good for families, for households. It's putting more money in their pockets... It's like a tax cut that boosts their spending power."

At the same time, she noted that cheaper oil can undercut wage growth and keep inflation below target.

The Fed's statement was approved on a 7-3 vote. The three dissents reflected the sharp divisions inside the Fed as it transitions from an extended period of ultra-low rates to a period in which it will start to raise rates. The Fed has not raised rates in more than eight years.

The dissents included Presidents Richard Fisher of the Dallas Fed and Charles Plosser of the Philadelphia Fed, who have long stressed the need for the Fed to prevent high inflation. Narayana Kocherlakota, president of the Fed's Minneapolis regional bank, dissented for a different reason: He thinks the Fed should do more to boost inflation to its 2 percent target.

Since the Fed's last meeting, the job market and other sectors of the economy have strengthened. Employers added 321,000 jobs in November, sustaining the healthiest year for job growth since 1999. The 5.8 percent unemployment rate is close to the 5.2 percent to 5.5 percent range that the central bank considers maximum employment.

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AP Economics Writer Christopher S. Rugaber contributed to this report.

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