Fed Raises Interest Rates by 1/4 Point, Says Economy Will Recover

In a widely expected move, the Federal Reserve (search) Tuesday raised its target for the federal funds rate by 25 basis points to 1.50 percent, its second rate increase in a row, saying the economy was poised to pick up after a recent slowdown.

The decision by Fed Chairman Alan Greenspan (search) and the rate-setting Federal Open Market Committee (search) still keeps the federal funds rate (search) for overnight loans between banks at historically low levels. 

The fed funds rate, the interest that banks charge each other on overnight loans, is the Fed's primary tool for influencing the economy. The Fed cut rates 13 times since early 2001 in an effort to foster a vigorous expansion.

In explaining its action, the Fed noted that economic growth had moderated somewhat in recent months and "the pace of improvement in labor market conditions has slowed."

It blamed this economic slowdown on the jump in energy prices this year but predicted that the economic weakness should be temporary.

The Fed statement said that the economy "appears poised to resume a stronger pace of expansion going forward."

The Fed also repeated a pledge it made on June 30 when it first raised rates. It said that it believes future rate increases can be made "at a pace that is likely to be measured."

The Fed's next meeting will occur on Sept. 21. While another rate increase could come at that time, analysts said it will depend on the data between now and then.

"I think the Fed is going to be very measured and cautious going forward," said economist David Jones, the author of several books on the Greenspan Fed.

However, other analysts said they believed the Fed could still raise rates in September if the economy has resumed a stronger pace of growth by that time. Stocks weakened on Wall Street just after the Fed's midafternoon announcement but reclaimed the lost ground and rose higher by day's end.

The key will be the performance of the job market, analysts said. In July, the increase of just 32,000 payroll jobs was the weakest showing this year and far below the 200,000-plus that private analysts had been predicting.

Until recently, the economy was gathering steam — enough for a campaigning President Bush to declare on July 30 that "we're turning the corner and we're not turning back."

But some unsettling elements have entered the picture, specifically soaring oil prices that set fresh records near $45 a barrel on Tuesday and startlingly weak job growth in July when a mere 32,000 workers were added to payrolls.

Some analysts even questioned whether another rate rise was needed now but the consensus was that the Fed had raised expectations of an increase to such a point that failing to do so might only cause further financial-market disruption.

As a result of the Fed's decision to push up the funds rate, commercial banks increased their prime lending rate for many short-term consumer and business loans by a corresponding amount. The prime rate, which has been at 4.25 percent, is expected to rise to 4.50 percent.

Reuters and the Associated Press contributed to this report.