Falling consumer prices likely means Fed will maintain record-low interest rates.

WASHINGTON — The Federal Reserve seems likely to keep interest rates at record lows for several more months after news Friday that consumer prices excluding food and energy fell in January.

Overall consumer prices edged up 0.2 percent in January, the Labor Department said. But excluding volatile food and energy, prices fell 0.1 percent. That drop, the first monthly decline since December 1982, reflected falling prices for housing, new cars and airline fares.

The tame report on consumer prices sent a positive signal to investors and borrowers. It suggested that short-term rates can remain low to strengthen the economic recovery without triggering inflation.

Some have worried that a Fed rate increase affecting consumers and businesses might be imminent, especially after it just raised the rate banks pay for emergency loans.

The Fed has kept a key bank lending rate at a record low near zero since December 2008. The goal is to entice consumers and businesses to boost spending.

Many analysts said the consumer-price report reinforced their view that the earliest the Fed will start raising rates is the fall.

"Rate hikes remain unlikely until late 2010 or early 2011," Eric Lascelles, an economist at TD Securities, wrote in a research note.

Fed Chairman Ben Bernanke has said the Fed will likely start to tighten credit by raising the rate it pays banks on money they leave at the central bank. Doing so would raise rates tied to commercial banks' prime rate and affect many consumer loans. That would mark a shift away from the federal funds rate, its main lever since the 1980s.

The Fed announced late Thursday that it was boosting the rate banks pay for emergency loans, called the discount rate, by a quarter-point to 0.75 percent.

The announcement of the discount rate increase initially roiled global financial markets. Investors feared it could be a signal that the Fed might start raising consumer and business rates because of inflation fears.

But Friday's report of benign consumer prices calmed the initial market jitters.

"The economy is still suffering from major problems," said Sal Guatieri, an economist at BMO Capital Markets. "The Fed is going to err on the side of keeping policy loose because of the high unemployment rate and the minimal risk that inflation will move higher over the next couple of years."

Economists say inflation will remain tepid as the economy struggles to sustain a rebound from the deep recession. High unemployment is keeping a lid on wage gains. And consumer spending is being constrained by the weak income growth. Businesses don't have the ability to raise prices.

Mark Zandi, chief economist at Moody's Economy.com, said he thinks the Fed will start raising rates in December. But he said that could easily slip into next year, if joblessness remains high.

"I don't see them raising interest rates until the unemployment rate is headed lower on a sustained basis," Zandi said.

Falling consumer prices likely means Fed will maintain record-low interest rates. 02/19/10 [Last modified: Friday, February 19, 2010 10:45pm]

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