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Fed keeps rates steady, hints at a possible cut

Wall Street responds to the news with vigor.

ADVERTISEMENT [AP Photo] Traders smile as they watch the numbers near the close of trading at the New York Stock Exchange on Wednesday.

WASHINGTON - The Federal Reserve held interest rates steady on Wednesday and raised the possibility that they could be cut in the months ahead, igniting a rally on Wall Street where investors are thirsting for a reduction.

Fed chairman Ben Bernanke and his central bank colleagues left an important interest rate unchanged at 5.25 percent, the sixth straight meeting without budging the rate. The decision was unanimous.

On Wall Street, stocks rose sharply. According to preliminary calculations, the Dow Jones industrial average rose 159.42, or 1.30 percent, to 12,447.52.

Largely thanks to Wednesday's triple-digit gains, the index's biggest one-day gain since July 24, 2006, the Dow Jones industrials have surged 337 points this week, the best three-day performance for the blue chip average since November 2004.

The Fed's decision means that commercial banks' prime interest rate - for certain credit cards, home equity lines of credit and other loans- stays at 8.25 percent. The Fed has left rates alone since August, giving borrowers time to catch their breath after two years of steadily rising rates.

In an important shift, Fed policymakers got rid of language from previous policy statements that suggested their next move could be a rate increase. Instead, the Fed is widening its options and raising the possibility that rates could go down.

Investors are betting the Fed will cut rates this year to guard against undue economic weakness. Many economists predict the central bank will start cutting rates early next year.

"The needle has shifted a little more to the center. I think they are more open to easing rates than they would have been several months back," said Lynn Reaser, chief economist at Bank of America's Investment Strategies Group. "They are moving away from the notion there could only be a rate increase."

The market was relieved that the central bank left in place language in its statement that it still expects the economy will "continue to expand at a moderate pace." While a slowdown in the economy likely would quell the threat of inflation and perhaps open the way for a rate cut, it would dent corporate profits.

That being said, the Fed did slightly downgrade its assessment of economic conditions, saying recent barometers "have been mixed."

In contrast, at its previous meeting in late January, the Fed said recent indicators "suggested somewhat firmer economic growth."

Similarly, the Fed talked on Wednesday about the ongoing "adjustment" in the housing sector. The Fed didn't mention any "tentative signs of stabilization," as it had in January, a view that led some to hope that the painful housing slump could be improving somewhat.

The economy has been feeling the strain of the housing slump. Economic growth in the final quarter of last year clocked in at a 2.2 percent pace, a sluggish performance that is expected to continue in coming months.

Investment in home building in the fourth quarter was slashed by 19.1 percent on an annualized basis, the steepest decline in 15 years.

[Last modified March 21, 2007, 21:57:49]