The Fed: To Raise Or Not To Raise

When the Federal Open Market Committee (FOMC), the Federal Reserve's monetary policy panel, meets on Aug. 8, the key question will be whether to raise the influential federal funds target rate. The rate, now at 5.25%, is the interest banks charge each other on overnight loans.

Slow economic growth in the April-through-June quarter strengthens the case for the FOMC, after 17 consecutive quarter-point increases, to take a pause next month. The U.S. Commerce Department's first read of second-quarter GDP, released on July 28, showed the U.S. economy growing at an annual rate of just 2.5%, less than half the 5.6% rate for the first quarter of this year. Except for the 1.8% rate in the fourth quarter of 2005, the second-quarter's rate is the lowest since 1.2% in the first quarter of 2003.

On the other hand, inflation is probably higher than the FOMC likes. The so-called core PCE -- personal consumption expenditures minus food and energy -- increased at a seasonally adjusted annual rate of 2.9% in the second quarter of this year, its highest quarterly rate in three years.

What is clear is that consumer spending, which accounts for about two-thirds of all U.S. economic activity, slowed dramatically during the second quarter of this year. Growth fell to a seasonally adjusted annual rate of 2.5% in the April-through-June quarter, slightly more than half the first quarter's 4.8% rate. "Higher interest rates, higher oil prices and mounting debt are burdening consumers," says Peter Morici, a professor at the University of Maryland's Smith School of Business in College Park. "With the housing market cooling, consumers are no longer able to use the equity in their homes to finance ever larger purchases of clothes, electronics and other goods, and services."

Morici's bottom line: "Looking forward, consumer spending and housing construction will continue to moderate, and strong business investment will be needed to power the economy -- or the expansion will falter."

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