Fed says US economy still strong enough to handle rate hike

The US economy is growing moderately after a winter swoon and likely to be strong enough to support an interest rate increase by the end of the year, US Federal Reserve officials indicated on Wednesday.

After contracting in the first quarter, the economy is now on track to grow between 1.8 per cent and 2.0 per cent this year, down from the 2.3-2.7 per cent range forecast in March, according to the central bank's latest policy statement and new projections issued by Fed policymakers.

The Fed also said labour markets continued to improve, though with unemployment expected to be slightly higher at the end of the year than previously forecast in March. Inflation remains low but is expected to gradually rise to its 2 per cent target over the medium term, the Fed said.

Still, the statement and forecasts keep the Fed on track to raise rates once or twice over its four remaining policy-setting meetings in 2015.

"The Fed has two criteria: labour market improvement, which we continue to see, and confidence that inflation will move to its objectives. That's starting to happen," said Wayne Kaufman, chief market analyst at Phoenix Financial Services in New York.

Financial markets were little moved by the central bank's decision and statement. Stocks, which were trading mildly lower beforehand, turned slightly positive while U.S. Treasury securities cut losses and are near the highest levels of the US session. The dollar index was at the day's low, off about 0.44 per cent.

HEDGING ITS BETS ON DATA Fed policymakers maintained the current near-zero rate for now and said a hike would be appropriate only after further improvement in the labour market and greater confidence that inflation would rise.

"Economic activity has been expanding moderately," the Fed said in its policy statement following a two-day meeting. "The pace of job gains picked up while the unemployment rate remained steady. On balance, a range of labour market indicators suggests that underutilisation of labour resources diminished somewhat."

In their projections, Fed officials lowered expectations for GDP growth in 2015 after accounting for a weak start to the year. It was the second time since December that the central bank has downgraded its GDP forecast for this year.

But 15 of 17 Fed policymakers still indicated the first rate hike should take place this year, no change from their previous set of predictions.

More significantly, policymakers' individual projections for the appropriate federal funds rate at year's end remained clustered around 0.625 percent. However, seven policymakers are now in favor of hiking rates only once or not all this year. In addition, Fed officials see slightly lower rates at the end of 2016 and 2017 than forecast in March.

With rates currently set at a range of between 0 per cent and 0.25 per cent, that would imply two quarter-point rate hikes between now and the end of the year, with many analysts predicting an initial hike in September.

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