Fed Seen Raising Rates Despite Katrina

WASHINGTON – Federal Reserve (search) policymakers began meeting on Tuesday amid widespread expectations they will stick to a course of gradual rate rises, despite some calls for a pause in the wake of Hurricane Katrina.

Shortly before the U.S. central bank's Federal Open market Committee (search) began meeting at 9 a.m. EDT , fresh government data showed a dip in new housing construction in August but not enough to indicate a threat to expansion.

The Fed is expected to announce its decision on interest rates at around 2:15 p.m. EDT in a statement setting out its analysis of the economy's prospects and the level of policy accommodation that it considers it has put in place.

Earlier speculation that the damage the storm wrought on the Gulf Coast (search) might prompt a hiatus in the Fed's rate-rise campaign has faded as forecasters largely concluded the central bank would push ahead with its policy tightening.

As of Monday, 18 of 22 Wall Street firms that deal directly with the Fed saw another quarter-percentage point hike.

Economists, in recent days, have come around to the view that the Fed will lift rates, persuaded the policy-setting members of the Federal Open Market Committee have their eye on the longer-run prize of controlling potential inflation.

Fed officials have done little to dissuade them.

"The Fed has and must have a commitment to price stability," San Francisco Fed President Janet Yellen (search) said on Sept. 8, days after the storm damaged Gulf Coast oil refineries and distribution facilities. "The uncertainties on the upside (for inflation) have only gotten bigger since Katrina slammed into the Gulf Coast."

The federal funds rate, the Fed's primary monetary policy tool, now stands at a four-year high of 3.5 percent after a course of 10 gradual increases that began 15 months ago.

"We are led to conclude that the current tightening cycle still has further to go," said economist Anthony Chan of JPMorgan Asset Management in Columbus, Ohio.

He said he would be "shocked" if policy-makers do not at least mention Katrina, but added that the massive aid pouring into New Orleans and other affected regions trumps anything the Fed could do to help with a rate pause.

On Tuesday, the Commerce Department said August housing starts fell from July by 1.3 percent to a 2.009 million unit annual rate. Katrina had a marginal impact on building, but its effect may have shown more directly in a 2.1 percent fall in U.S. chain-store sales last week, analysts said.

Reconstruction in hardest-hit areas is expected to give economic activity a lift later this year and in early 2006.

Estimates are that rebuilding might cost $200 billion, a huge fiscal stimulus that raises troubling questions for policy-makers about the potential impact on prices.

"In view of the stimulus already out there, I think the Fed will finish out the year by raising rates until the end," Chan said. If so, that would lift the fed funds rate to 4.25 percent by December.

One factor making the Fed wary is costly energy. Oil is trading below the record $70.85 a barrel hit right after Katrina, but faced renewed upward pressure as fears of another looming hurricane boosted U.S. light crude prices.

Energy has not yet derailed growth, but the Fed is keeping a close watch for any sign it is filtering into broader prices. Also, costlier gasoline and other prices sapped consumer confidence in early September.

With few economic indicators scheduled this week, market attention was focused on the Fed decision, and on the language in the accompanying statement.

The U.S. central bank has described its policy as "accommodative" -- language intended to signal it sees room for more rate rises -- and has pledged "measured" rate hikes that are taken to mean modest quarter-percentage point moves instead of larger ones.

Any change to those words could indicate the Fed was getting closer to a so-called neutral level of interest rates that neither hinders growth nor fires inflation.

Fed officials have suggested this ideal rate is a moving target that depends on prevailing economic conditions.