updated 6/22/2008 2:08:41 PM ET 2008-06-22T18:08:41

After the Federal Reserve’s meeting this week, the Fed policymakers are expected to voice a tough stance on inflation. Talk about poor timing.

Major Market Indices

Though Wall Street’s inflation concerns have not abated — crude oil remains above $134 a barrel — worries about the health of the U.S. financial system and broader economy have returned in force.

Last week, Citigroup Inc. warned that it expects substantial debt losses in the second quarter; two bond insurers lost their Moody’s “AAA” rating; Fifth Third Bancorp said it needs to raise $2 billion in capital; the broker MF Global said widening credit spreads will dampen its profit.

This means the market is going to have a hard time stomaching any hint from policymakers that an interest rate hike is on the way. When borrowing gets more expensive, the economy tends to get even more anemic.

“I don’t know that there’s anything they can say in their policy statement that would cause the market to breathe a sigh of relief, or cause a big updraft in the market,” said Richard Sparks, a senior equity analyst at Schaeffer’s Investment Research in Cincinnati. “The best they could do is remain neutral. ... But I agree with most people that they’re more likely to emphasize price pressures rather than the potentially weakening economy.”

Few investors expect the Fed to increase the key interest rate at its meeting Tuesday and Wednesday, after lowering it incrementally over the past year. Many don’t expect a rate hike until the fall, or until early next year. But nearly all believe, after speeches by Fed officials over the past few weeks, that policymakers are finished with lowering rates due to the plunging dollar and soaring energy costs.

“There’s no question the Fed is walking on a tightrope here. They’re in a box,” said Peter Cardillo, chief market economist at New York-based brokerage house Avalon Partners Inc. He pointed to the sluggish economy, the threat of rising inflation, and flooding in the Midwest that is destroying crops.

“If they were to raise (rates), that could put further weakness in economic activity. But by the same token, by raising, that could help stabilize the dollar and help reverse inflation,” Cardillo said.

Wall Street’s trifecta of troubles — the economy, inflation and financials — drove the Dow Jones industrial average down by 3.78 percent last week. It closed below 12,000 for the first time since mid-March. The Standard & Poor’s 500 index ended the week down 3.10 percent, and the Nasdaq composite index closed 1.97 percent lower.

“Right now, I think we’re kind of moving lower because there’s nothing positive on any front,” Sparks said.

In addition to the Fed meeting, this week brings data from S&P/Case Shiller on April home prices, May orders for durable goods, May sales of new and existing homes, and — in perhaps the most revealing report for the market — personal income and spending in May.

The Commerce Department’s personal spending reading is expected to show a 0.6 percent increase, according to the median estimate of economists surveyed by Thomson Financial. Income is anticipated to have increased by 0.4 percent, while inflation at the personal spending level — as measured by the Core Personal Consumption Expenditures Deflator — is predicted to have ticked up by 0.2 percent.

Another important piece of data is the Commerce Department’s final reading on first-quarter gross domestic product. The estimate was revised up last month to 0.9 percent, and economists, on average, expect the government to ratchet it up again to 1.0 percent.

The earnings calendar, meanwhile, is light this week, with most companies readying to report in July. But results from food companies — Kroger Co., General Mills Inc., Monsanto Co. and ConAgra Foods — will likely be in focus as Wall Street assesses how agricultural commodities costs are affecting businesses and consumers.

Other key earnings releases this week include Nike Inc., Oracle Corp., Research In Motion Ltd., Discover Financial Services LLC, Lennar Corp., Palm Inc. and Rite Aid Corp.

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