Page last updated at 20:38 GMT, Wednesday, 20 February 2008

US Fed slashes growth forecasts

A US motorist fills his vehicle
Energy prices have fuelled the surge in inflation

The US Federal Reserve has slashed its growth forecast for the US economy and raised its forecast for unemployment.

The Fed cut its growth forecast for this year by half a percent to a new range of between 1.3% and 2%.

The US central bank also said the jobless rate could be as high as 5.3% by the end of the year.

The gloomy outlook was blamed on falling house prices, reduced bank lending, turmoil in the financial markets and higher oil prices.

Rising inflation

The report was released with minutes of interest rate meetings held at the US Federal Reserve last month.

In those minutes, officials said that interest rates would have to be "relatively low" for some time.

But policy makers will have to watch rising inflation.

A report out on Wednesday showed that consumer prices are heading higher.

US consumer prices rose by 0.4% in January, more than many analysts had forecast.

According to the US Labor Department, the main drivers of the price growth were food and energy costs.

Analysts say that inflation concerns may hamper the Fed when it comes to cutting rates again in the future.

Housing market

Separate data showed that the US housing market was still experiencing problems, with construction indicators hovering near their lowest levels since 1991.

Housing continues to be an area that will act as a drag on the economy going forward here
Kevin Flanagan, Morgan Stanley

According to the Commerce Department, applications for building permits fell by 3% to 1.048 million units.

Analysts said that disappointing figure offset an increase in housing starts, which rose by 0.8% in January.

That was the first increase since October and followed a plunge of 14.8% in December.

An increase of unsold homes and mounting mortgage defaults will probably weigh on the housing market and the wider economy, analysts said.

"Housing continues to be an area that will act as a drag on the economy going forward," said Kevin Flanagan of Morgan Stanley.

Stagflation fears

The Fed cut interest rates twice in January to 3% in an attempt to boost the economy, which has been dragged down by the collapse in the US housing market.

Neil Mellor at Bank of New York Mellon said the inflation data could raise fresh fears of stagflation - rising prices and stagnant growth.

"The data ostensibly pose a dilemma [for the Fed]," Mr Mellor said.

"We strongly suspect, however, that the figures are unlikely to deter [the Fed] from cutting interest rates further."

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