By
updated 8/9/2011 5:42:28 PM ET 2011-08-09T21:42:28

The Federal Reserve sketched a dim outlook for the U.S. economy Tuesday, suggesting it will remain weak for two more years. As a result, the Fed said it expects to keep its key interest rate near zero through mid-2013.

Major Market Indices

It's the first time the Fed has pegged its "exceptionally low" rates to a specific date. The Fed had previously said only that it would keep its key rate at record lows for "an extended period."

The Fed announced no new efforts to energize the economy in its statement released after its one-day policy meeting. But the statement held out the promise of lower rates on mortgages and other consumer loans longer than many had assumed.

The decision was approved on a 7-3 vote. Three Fed regional bank presidents who have been worried about inflation objecting. It was the first time since November 1992 that as many as three Fed members have dissented from a policy statement.

The Fed's new timetable and its implications for the economy led to a wild afternoon of trading on Wall Street. Stocks plunged after the statement was released, but then shot up shortly after. The Dow Jones industrial average sank more than 176 points, then recovered its losses and closed up 429 points for the day.

Story: Wild day on Wall Street; Dow soars 430 points after Fed telegraphs a slow recovery

Many investors sought the safety of long-term Treasurys. The yield on the 10-year Treasury note briefly touched a record low of 2.03 percent before heading higher.

Investors seemed to look past the more downbeat language the Fed used to describe economic conditions. The economy has grown "considerably slower" than the Fed had expected and consumer spending "has flattened out," it said in a statement released after the one-day meeting.

The Fed also said that temporary factors, such as high energy prices and the Japan crisis, only accounted for "some of the recent weakness" in economic activity. Federal Reserve Chairman Ben Bernanke had previously said that the economy would rebound in the second half of the year after such factors eased.

Fed officials "are very nervous about the economy," said Mark Zandi, chief economist at Moody's Analytics. "This is unprecedented for the Fed to indicate they are ready to keep rates low for two more years."

The federal funds rate is the interest that banks charge each other on overnight loans. The Fed has kept its target for the rate at a record low near zero since December 2008, a response to the recession and financial crisis.

Since March 2009 the Fed has only said that it would keep the rate at "exceptionally low" levels for an "extended period." On Tuesday, the Fed dropped the "extended period" language, and said rates would likely stay at those levels "at least through mid-2013."

Some economists said the Fed didn't offer any remedies for the deteriorating economic conditions it described.

University of Oregon economist Timothy Duy called the clearer language about how long rates would stay low "weak medicine." He wanted the Fed to commit to buying more Treasury bonds.

Earlier this summer, the Fed ended a $600 billion Treasury bond-buying program. The bond purchases were intended to keep rates low to encourage spending and borrowing and lift stock prices.

The Fed did hold out the promise of further help in the future. But it did not spell out what else it might do.

Dean Maki, chief U.S. economist at Barclays Capital, said the large number of dissents suggests that Bernanke would have trouble building consensus for another round of bond purchases.

"Nothing here says they're not going to do (it)," Maki said. But "it does suggest that there is significant resistance on the committee."

Fed officials met against a backdrop of speculation that they would say or do something new to address a darkening economic picture. The stock market has plunged and government data have signaled a weaker economy in the four weeks since Bernanke told Congress that the Fed was ready to act if conditions worsened.

The economy grew at an annual rate of just 0.8 percent in the first six months of the year. Consumers have cut spending for the first time in 20 months. Wages are barely rising. Manufacturing is growing only slightly. And service companies are expanding at the slowest pace in 17 months.

Employers hired more in July than during the previous two months. But the number of jobs added was far fewer than needed to significantly dent the unemployment rate, now at 9.1 percent. The rate has exceeded 9 percent in all but two months since the recession officially ended in June 2009.

Fear that another recession is unavoidable, along with worries that Europe may be unable to contain its debt crisis, has rattled stock markets. The Dow Jones industrial average has lost nearly 15 percent of its value since July 21. On Monday, it fell 634 points — its worst day since 2008 and sixth-worst drop in history.

Story: Slow economy is a worse problem than any downgrade

The tailspin on Wall Street was further fueled by Standard & Poor's decision to downgrade long-term U.S. debt.

  1. More on the financial crisis
    1. AFP - Getty Images
      Fed, with few cards, makes unusual pledge

      The Federal Reserve's highly unusual promise — to keep interest rates low for "at least" two more  years — comes as the central bank is running out of options to reassure panicky markets.

    2. Economic uncertainty feels like normal now
    3. Tough decisions ahead to get AAA rating back
    4. Economy is a bigger problem than any downgrade
    5. As market melts down, some are saying 'Buy!'
    6. EU bank chief: Markets 'in worst crisis since WWII'
    7. As markets tank, financial planners advise calm

Bernanke didn't speak publicly after Tuesday's Fed meeting. The chairman this year made a historic change by scheduling news conferences after four of the Fed's eight policy meetings each year, but Tuesday's wasn't one of them.

Later this month at the Fed's annual retreat in Jackson Hole, Wyoming, Bernanke will likely address the weakening economy, the S&P downgrade and the market turmoil.

Full text of the Fed's statement
Information received since the Federal Open Market Committee met in June indicates that economic growth so far this year has been considerably slower than the Committee had expected. Indicators suggest a deterioration in overall labor market conditions in recent months, and the unemployment rate has moved up. Household spending has flattened out, investment in nonresidential structures is still weak, and the housing sector remains depressed. However, business investment in equipment and software continues to expand. Temporary factors, including the damping effect of higher food and energy prices on consumer purchasing power and spending as well as supply chain disruptions associated with the tragic events in Japan, appear to account for only some of the recent weakness in economic activity. Inflation picked up earlier in the year, mainly reflecting higher prices for some commodities and imported goods, as well as the supply chain disruptions. 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.

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee now expects a somewhat slower pace of recovery over coming quarters than it did at the time of the previous meeting and anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate. Moreover, downside risks to the economic outlook have increased. The Committee also anticipates that inflation will settle, over coming quarters, at levels at or below those consistent with the Committee's dual mandate as the effects of past energy and other commodity price increases dissipate further. However, the Committee will continue to pay close attention to the evolution of inflation and inflation expectations.

To promote the ongoing economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent. The Committee currently anticipates that economic conditions — including low rates of resource utilization and a subdued outlook for inflation over the medium run — are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013. The Committee also will maintain its existing policy of reinvesting principal payments from its securities holdings. The Committee will regularly review the size and composition of its securities holdings and is prepared to adjust those holdings as appropriate.

The Committee discussed the range of policy tools available to promote a stronger economic recovery in a context of price stability. It will continue to assess the economic outlook in light of incoming information and is prepared to employ these tools as appropriate.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; Elizabeth A. Duke; Charles L. Evans; Sarah Bloom Raskin; Daniel K. Tarullo; and Janet L. Yellen.

Voting against the action were: Richard W. Fisher, Narayana Kocherlakota, and Charles I. Plosser, who would have preferred to continue to describe economic conditions as likely to warrant exceptionally low levels for the federal funds rate for an extended period.

© 2013 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

Video: CNBC on the Fed's announcement

Explainer: What is the the FOMC?

  • Image: Fed Chair Ben Bernanke
    Getty Images

    The Federal Reserve's chief policymaking group has vast power over the finances of ordinary people, businesses and investors. The consequences of its interest-rate decisions range wide: from people's ability to get affordable loans to the price of cereal at the grocery store or gasoline at the corner station.

    Here's a look at the policymaking group, called the Federal Open Market Committee.

  • What is the FOMC's primary role?

    Image: Employment Development Department office in San Jose, Calif.
    AP

    Its mission is to keep the economy, inflation and employment on a healthy track. When the economy weakens, Fed policymakers cut rates or keep them low. The idea is to cause people and businesses to borrow and spend more, which sustains the economy. But when the economy grows so fast that inflation becomes a threat, Fed policymakers will raise rates or keep them high. That makes it costlier for people to borrow. Spending and other economic activity will slow. Companies find it harder to raise prices. Inflation pressures ease.

  • How does the FOMC move interest rates?

    Image: TV shows rates unchanged
    AP

    Its policymakers decide whether to buy securities. Doing so expands the flow of money into the financial system and lowers the Fed's key interest rate. Conversely, the policymakers could decide to sell securities. That would drain money from the system and tighten credit by raising rates. The Federal Reserve Bank of New York is responsible for conducting these operations.

  • Who's on the committee?

    Image: Federal Reserve Board Governor Raskin
    Reuters

    It's composed of:

    • The Fed's Board of Governors in Washington, which now totals five members but at full strength has seven members.
    • The president of the Federal Reserve Bank of New York.
    • Four of the remaining 11 presidents of the Fed's regional banks. They serve one-year terms on a rotating basis.

    Here is Tuesday's roster of voting members: Fed Chairman Ben Bernanke, Vice Chairwoman Janet Yellen, and Fed Governors Elizabeth Duke, Daniel Tarullo and Sarah Bloom Raskin (pictured), all based in Washington; William Dudley, president of the Federal Reserve Bank of New York; Charles Evans, president of the Federal Reserve Bank of Chicago; Charles Plosser, president of the Federal Reserve Bank of Philadelphia; Richard Fisher, president of the Federal Reserve Bank of Dallas; and Narayana Kocherlakota, president of the Federal Reserve Bank of Minneapolis.

    (President Barack Obama has nominated Peter Diamond to be a Fed governor, but the Senate hasn't confirmed him. Diamond, a professor at the Massachusetts Institute of Technology, shared the Nobel Prize in Economics in 2010. )

  • How often does the FOMC meet?

    Image: The Federal Reserve building
    Reuters

    It regularly meets eight times a year in person at the Fed's headquarters in Washington. During the financial crisis, the FOMC also held emergency meetings, mostly by video conference. This year, half the meetings were two-day sessions, the rest one-day. All the regularly scheduled meetings last year took two days. That was because the Fed needed time to devise unconventional programs to fight the financial crisis. Traditionally, one-day meetings are more common. Each one-day meeting runs roughly five hours. Two-day meetings run about eight hours spread over the two days.

  • Why are the FOMC's rate decisions issued around 2:15 p.m.?

    Image: Ben Bernanke on TV at NYSE
    AP

    Having a consistent time helps investors digest and react to the Fed's policy decisions. Issuing decisions when the markets are open gives Fed policymakers instant feedback from investors.

  • Why are some of the FOMC's rate decisions issued around 12:30 p.m.?

    Image: CNBC

    For the first time in the Fed's history, the chairman is conducting a series of regularly scheduled news conferences to discuss the Fed's forecast. Bernanke's first was held Wednesday. They will be held four times a year, after the Fed concludes its two-day meetings to update its economic forecasts on growth, employment and inflation. So, after those meetings, the FOMC's decisions are released earlier, around 12:30 p.m. Bernanke will then holds a news conference at 2:15 p.m. It's something that Bernanke's counterparts in Europe and Japan have done for years. The Fed is hoping the news conferences will improve its communications with Wall Street investors and the American public.

  • How are the FOMC's rate decisions approved?

    Image: Gavel
    Getty Images stock

    By a majority of the voting members, who now total nine. (At full strength, there would be 12.) That said, a close decision could spell trouble for the Fed chairman. It would suggest he can't win over policymakers to his side and could leave him weakened. Most votes are overwhelming, however, indicating that Fed chiefs are typically able to build consensus.

  • How are Fed officials selected?

    Image: President Barack Obama
    Reuters

    The president nominates the Fed chairman and his colleagues on the board of governors in Washington. They must be confirmed by the Senate. The presidents of the 12 regional Fed banks are appointed by each bank's board of directors, with approval from the Fed's board. A new law revamping financial regulation, however, bars bankers who sit on the regional boards from voting. Other local business people serving on the boards still retain their vote. This change was made to address concerns about potential conflicts of interest — having officials whose companies are overseen by the Fed in Washington picking the regional presidents.

  • How and why was the Fed created?

    Image: $100 bills
    Reuters

    Congress passed the Federal Reserve Act in 1913. The legislation was signed into law by President Woodrow Wilson on Dec. 23, 1913. The Fed began operating in 1914. It was created in response to a series of bank panics that plagued the United States during the 19th and early 20th centuries. Those panics led to bank failures and business bankruptcies that roiled the economy.

Discuss:

Discussion comments

,

Most active discussions

  1. votes comments
  2. votes comments
  3. votes comments
  4. votes comments

Data: Latest rates in the US

Home equity rates View rates in your area
Home equity type Today +/- Chart
$30K HELOC FICO 4.75%
$30K home equity loan FICO 5.26%
$75K home equity loan FICO 4.56%
Credit card rates View more rates
Card type Today +/- Last Week
Low Interest Cards 10.91%
10.91%
Cash Back Cards 16.36%
16.36%
Rewards Cards 15.96%
15.94%
Source: Bankrate.com