Fed holds rates low

The U.S. Federal Reserve left American interest rates at record lows Wednesday.

The decision to keep its key lending rate in a range between zero and 0.25 per cent was widely expected in order to sustain the fragile economic rebound in the U.S.

In the commentary accompanying the announcement, the central bank repeated its pledge to keep rates where they are for an "extended period."

It also focused on Europe's debt crisis, and the risks it poses to the economy.

While not mentioning Europe by name, the Fed said, "financial conditions have become less supportive of economic growth … largely reflecting developments abroad."

"Recovery is proceeding and labour markets are improving," it said, and "household spending is increasing but remains constrained by high unemployment, modest income growth, lower housing wealth and tight credit."

The economy has been growing again for nearly a year. Manufacturing activity has been picking up and businesses have been spending more.

No 'double-dip'

Fed chairman Ben Bernanke has expressed confidence that America won't fall back into a "double-dip" recession.

But the recovery remains vulnerable, not only to the troubles in Europe, but also because of cautious consumers, a fragile housing market and high unemployment.

But one of the Fed’s policy makers remained concerned that low rates will feed inflation.

Thomas Hoenig, president of the regional Federal Reserve Bank of Kansas City, has dissented for four straight meetings from the Fed's "extended period" pledge.

Besides inflation, Hoenig has said he fears keeping rates too low for too long could lead to excessive risk-taking by investors, feeding speculative bubbles in the price of assets like stocks, bonds and commodities.

'Managing market expectations will be a communication challenge' —TD Bank economist Beata Caranci

The Fed is likely close to dropping the "extended period" reference, TD Bank economist Beata Caranci said in a commentary. The move could take place perhaps as early as its next meeting in August.

But avoiding spooking financial markets with the prospect of unexpected higher borrowing costs, Caranci said, means "managing market expectations will be a communication challenge."

"We don’t anticipate the Fed will raise rates until the first quarter of 2011," she predicted, "and even when it does finally get the ball rolling, cautiousness and restraint will continue to be exerted with a fed funds rate ending the year at just 1.50 per cent."

The Bank of Canada raised interest rates by a quarter point June 1, the first hike in almost three years. But two weeks later, bank governor Mark Carney said further increases were not a certainty in the face of mounting concerns about the strength of the recovery.