Fed Lowers Growth Forecast For 2008, Hints It's Not Leaning Toward Rate Cuts

Policymakers again implied that they aren't eager to cut rates again next month, saying that the Oct. 31 rate reduction was a "close call."

The Fed is trying to be a little more agnostic in telling the markets not to assume a rate reduction is at hand, said Stuart Hoffman, a chief economist for PNC Financial Services.

"The Fed would like to keep its options open and not feel like they're going into this upcoming meeting with a predetermined notion that they will cut rates," he said.

But financial markets may force policymakers' hands. Fed funds futures continue to fully price in a December ease.

The Fed expects the U.S. economy to expand by 1.8%-2.5% next year. That's down from its June forecast for a 2.5%-2.75% gain. The Fed cited credit woes, the housing slump and high oil prices.

Policymakers signaled that they see growth this quarter of about 1.5%, with the pace gradually improving later next year.

But a slew of negative corporate and economic news roiled stocks again Tuesday. The Nasdaq rose 0.1% and the S&P 500 0.4%, but only after a wild ride to fresh lows.

Freddie Mac (NYSE: - ) reported a $2 billion third-quarter loss due to a huge decline in the market value of its mortgage portfolio. The mortgage finance giant may have to halve its dividend and reduce its buys of home loans to meet minimum capital levels.

Freddie dived 29% to an 11-year low. Sister firm Fannie Mae, which revealed its own credit woes last week, tumbled 25%.

Meanwhile, builders broke ground on an annualized 1.229 million homes in October, up 3% from September, the Commerce Department said. Economists expected housing starts to decline.

But the increase was only due to a surge in volatile multifamily units. Single-family starts fell for a seventh straight month to a 16-year low.

"The October increase is just an illusion," said Global Insight economist Patrick Newport. "The housing market has yet to hit bottom, and we expect another 20% drop in housing before a turnaround occurs."

Permits, a gauge of future construction, fell 6.6% in October, the lowest in 14 years. Single-family permits tumbled 8% and are down 20% since August, when the credit crunch took hold.

Oil prices shot up $3.39 to $98.03 a barrel, a record close.

Shares of Target (NYSE: - ) fell 4% after the discount giant reported lower third-quarter profit that missed Wall Street views. It also sees a sluggish holiday quarter.

Meanwhile, the Fed expects core inflation, as measured by the core PCE deflator, to stay below 2% for the next three years.

"Three to four months ago, before credit problems, they were talking about not convincingly demonstrating that core inflation has slowed down," Hoffman said. "Now I think collectively they've had a change of heart, I think it's even clearer in October that they view the improvement in core inflation as the shape of things to come."

Lower inflation would give the Fed more room to cut rates.

Unemployment should edge higher next year, but remain below 5%.

For the first time, the Fed gave three-year forecasts with expanded commentary on those estimates. Last week Chairman Ben Bernanke said the Fed would provide forecasts four times a year, up from two.

The forecasts were released along with minutes from the Fed's Oct. 30-31 meeting.

The Fed saw far more downside risks to economic growth than inflation risks, according to those minutes. Policymakers opted for a rate cut due to tighter credit, weakness in housing and rising oil prices.

"Most members saw substantial downside risks to the economic outlook and judged that a rate reduction at this meeting would provide valuable insurance against an unexpectedly severe weakening in economic activity," the minutes said. "Many members noted that this policy decision was a close call."