In Spite of Weakening Recovery, Fed Uses No New Economic Tools

The Federal Reserve issued a somewhat downbeat assessment of the state of the economy Wednesday but didn't outline any new tools to help the country get back to work.

The Federal Open Market Committee said in a statement that it is leaving interest rates unchanged at between 0% and 0.25%. The FOMC, which is headed by Fed Chairman Ben S. Bernanke, said information gathered since the last meeting in April suggests that "the economic recovery is proceeding and that the labor market is improving gradually."

It said household spending is increasing but "remains constrained by high unemployment, modest income growth, lower housing wealth and tight credit."

Deflation Not Addressed

In an interesting comment on inflation, the statement said "prices of energy and other commodities have declined somewhat in recent months and underlying inflation has trended lower." It added that "substantial resource slack" was restraining cost pressures and concluded that "inflation is likely to be subdued for some time."

But the FOMC did not address growing concerns that the country faces deflation, the downward spiraling of prices. Inflation hit an annual rate of 0.9% in May, the lowest in half a century. Prices for major commodities like cement and lumber have been declining, a conventional sign that deflation may be taking hold. But with interest rates near zero, the Fed can't cut them any further to help stimulate the economy.

Bill Gross, managing director of PIMCO, the country's largest bond investor, said on CNBC he would prefer the Fed take some additional steps, such as guaranteeing low interest rates would continue for several years more, as a way of supporting risky assets. "Come on, Mr. Bernanke, reach into your arsenal and use additional tools," Gross said.

Impact of Europe's Debt Crisis

The FOMC downgraded the economy on several fronts. It said financial conditions "have become less supportive of economic growth on balance, largely reflecting developments abroad."

That was a reference to the sovereign debt crisis sweeping Europe, where Greece, Spain, Portugal and Ireland have had to seek international help in paying back their debts. Paul Ashworth, U.S. economist for Capital Economics, says there are fears that the U.S. government will also be forced to adopt austerity measures because of investor concerns that Washington will not be able to pay back its debts., which will reach $218 trillion in 2015.

At its April meeting, the FOMC asserted that "housing starts have edged up but remain at a depressed level." But data from May showed housing starts had plunged 10% from the previous month. In its current assessment, the Fed now says only that "housing starts remain at a depressed level."

"Bank lending has continued to contract in recent months," the statement said. "Nonetheless, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability, although the pace of economic recovery is likely to moderate for a time."