By Mark Felsenthal
WASHINGTON (Reuters) - The Federal Reserve is expected to nod to an improving U.S. economic outlook on Wednesday even as it reaffirms a plan to buy $600 billion in government debt to help speed recovery.
Fed policy makers, wrapping up a two-day meeting, will outline their views of the economy and monetary policy in a statement expected at about 2:15 p.m.
They will likely take glancing note of gathering reasons for economic optimism. Consumer spirits are rising, factory activity strengthening and claims for jobless aid are sliding.
Officials could also take some comfort that inflation may have bottomed out, removing some angst about the risks of an outright deflationary spiral.
But with the unemployment rate still at a lofty 9.4 percent, and with gains in corporate profits and stock prices not translating to a stronger job market pulse, the Fed is widely expected to signal its bond-buying plan is on track.
"We ultimately expect any tinkering to be relatively minor," Deutsche Bank Chief U.S. economist Joseph LaVorgna wrote in a note to clients. "A stronger labor market will be an essential catalyst for monetary policymakers' attitudes to shift."
The annual rotation of voters among regional Fed bank presidents brings aboard two who have been outspoken skeptics regarding aggressive Fed easing programs. Even so, many analysts deem it unlikely both will dissent at the central bank's first policy meeting of the year.
Instead, one or both of the hawks, Philadelphia Federal Reserve President Charles Plosser and Dallas Fed leader Richard Fisher, may opt to keep their powder dry until the Fed needs to decide whether to extend the bond purchase program, which is due to run its course by mid-year.
The U.S. economy is expected to have expanded by a reasonably robust 3.5 percent annual rate in the fourth quarter after expanding at a 2.6 percent pace in the July-September period. Similarly vigorous growth at the beginning of 2011 may make the case for an ultra-accommodative monetary policy harder to sustain, even if unemployment remains relatively high.
Worries about rising food and energy prices around the world have stirred inflation fears and may add to pressure on the Fed to back away from its easy policies. European Central Bank President Jean-Claude Trichet warned on Sunday that higher commodity prices could spur rises in underlying inflation, signaling to many the ECB may be moving toward tightening.
With core inflation at 50-year lows in the United States, the Fed had been worried about a vicious cycle of falling prices and declining spending and investment.
But the brighter economic signs have left Fed officials breathing easier. "We're seeing some improvement in the labor market. I think deflation risk has receded considerably. And so we're moving in the right direction," Fed Chairman Ben Bernanke said on January 13.
Although downside risks may be receding, officials realize it will take a long time to fill the hole left by the 2007-2009 recession and they have set a high bar for any changes to their bond buying plan, which markets expect to be complete in full.
A Fed statement that casts doubts on the sustainability of the recovery would lift bond prices, but hit stock markets.
In contrast, if the Fed conveys greater optimism about the outlook than expected, suggesting its extraordinary measures to boost the economy could soon end, the dollar would strengthen and stocks would likely also benefit.
