Report: Fed May Fear Housing Decline More Than Once Thought

The minutes of the Federal Reserve interest rate committee’s last meeting, released Wednesday, suggest the U.S. chief financial policy makers may be more worried about the housing slump than previously thought.

According to the Chicago Tribune, the bleak assessment unnerved investors who were betting that the sector’s problems wouldn’t necessarily impact other portions of the economy, and sapped strength from the market on a day that had seen triple-digit gains.

The Dow Jones industrial average surged more than 117 points, but then pulled back sharply to close at 12,475, up a little more than 11 points.

“The concern is that the Fed was seeing something at its most recent meeting that suggested potentially more weakness than we had all been anticipating in the economy,” said Drew Matus of Lehman Brothers Inc.

Policymakers kept prime interest rates - a key indicator of what lenders will charge home mortgage applicants - steady at the December meeting. But the central bank left the door open for a possible rate increase, if needed, to thwart inflation.

“All members agreed that the risk that inflation would fail to moderate as desired remained the predominant concern,” the Federal Reserve said in a statement.

One member, who is not identified in the minutes of the meeting, thought the Fed should have held out the possibility of a rate cut as well.

In its December 12 statement, however, the Fed did not speculate about a rate cut. Rather, the policymakers hewed to previous language about the possibility of a rate increase, which most economists think unlikely.

The wording on possible moves involving interest rates that was suggested by the Fed member might be viewed by some investors “as a first step toward changing the forward looking language, a sentiment with which we do not entirely disagree,” said Stephen Stanley, chief economist at RBS Greenwich Capital.

At the December meeting, Fed policymakers said economic growth had slowed over the course of 2006, partly reflecting a “substantial cooling” of the housing market. That description went beyond the Fed’s previous assessment in late October and suggested a sharper slump in housing.

Policymakers cited the need to stay alert for signs that weakness in the housing sector could seriously infect the overall economy, stating in the official minutes:
“Considerable uncertainty regarding the ultimate extent of the housing market correction meant that spillovers to consumption could become more evident, especially if house prices were to decline significantly.”

Policymakers left their key interest rate unchanged at 5.25 percent at the December meeting. It was the fourth straight meeting without a change, and during that time, mortgage rates have more or less held steady.

Many economists believe the Fed will do the same at its next meeting on January 30-31, and further into the new year. Many analysts and investors predict an interest rate cut later in 2007, which could mean a dearth of low rate offers and a spike in home loan applications.