Fed to Keep Rates Low for Next 2 Years to Stave Off Recession

The Federal Reserve Board announced Tuesday that it expects the economy will remain weak “at least through mid-2013.” To try to spur some growth, or at least stave off a major recession, the agency’s Federal Open Market Committee announced that it will keep the federal funds rate at historic lows for at least the next two years.

The rate is currently at .25%, and the Fed could drop it to zero if conditions fail to improve.

While a continued sour economy sounds like bad news, the Fed’s response could help consumers, at least in the near future, says Beverly Harzog, Credit.com’s credit card expert.

“In the short term it could be a good thing because their rationale is trying to keep interest rates down” on everything from auto and car loans to credit cards, Harzog says.

[Related article: One Word For This Economy: Meh.]

There could be a long-term risk to keeping the federal funds rate so low, however. During the late 1990s Alan Greenspan, then the chair of the Fed, persisted in keeping the funds rate near historic lows in an effort to spur what he believed was a weak economy. Having so much cheap credit available for so many years is widely considered to be a factor that helped create the housing bubble, with all its disastrous consequences.

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“I have some concerns that this could cause inflation in the long term, and interest rates could go up,” Harzog says.

Virtually every economic indicator is pointed in the wrong direction, the Fed pointed out. These include rising unemployment, flat household spending and a depressed real estate market. There are some bright spots, however, including increased business investment in software and equipment.

But that little good news is outweighed by all the bad, the Fed says. Earlier this year, some commentators worried that the Fed wasn’t doing enough to curb inflation, and urged the agency to raise the federal funds rate to head off superheated economic growth.

Those fears proved to be “temporary,” the Fed said. While the disaster in Japan and surge in energy prices prompted fear of inflation months ago, “More recently, inflation has moderated as prices of energy and some commodities have declined from their earlier peaks. Longer-term inflation expectations have remained stable,” the Fed said.

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Image: Indi Samarajiva, via Flickr.com