Fed detects signs of recovery

WASHINGTON -- The weak economy may finally be emerging from the doldrums and even beleaguered manufacturers are starting to see signs of better days ahead, the Federal Reserve said Wednesday.

In a survey of business conditions around the country, the central bank said four of its 12 districts -- Dallas, Kansas City, New York and Minneapolis -- showed indications of increased economic activity. Not one region reported further deteriorating conditions since the end of the Iraq war.

"I sense that the Fed believes at the very least the economy has stabilized and there are some nascent signs that we may be turning the corner," said Mark Zandi, chief economist at Economy.com. "It is still a very cautious report with a lot of qualifiers."

Fed policy-makers will use the report when they review interest rates on June 24-25.

Even with the slightly more upbeat tone, analysts said they were convinced that the central bank again will lower interest rates. The Fed's target for the federal funds rate, the interest that banks charge each other, is at 1.25 percent, a 41-year low.

"The good news is that things aren't getting any worse and most likely the economy is stabilizing after the Iraq war," said Sung Won Sohn, chief economist at Wells Fargo in Minneapolis. "But on the other hand, the economy isn't out of the woods yet."

Many Fed regions still described conditions as "sluggish," "subpar" and "subdued," according to the survey. It found retail sales stronger than during the Iraq war but below levels of a year ago.

"The unwinding of war-related concerns appears to have provided some lift to business and consumer confidence, but most reports suggest that the effect has not been dramatic," the survey said.

Many analysts said the only debate at the upcoming Fed meeting will be whether to cut interest rates by one-quarter of a percentage point, the usual Fed move, or by one-half of a point. The Fed's last rate cut, a half-point, came seven months ago.

Counting on Greenspan

Analysts said their certainty is based on comments by Federal Reserve chairman Alan Greenspan and other Fed officials about the remote threat that economic activity could slow so much it could lead to a prolonged period of deflation, a destabilizing fall in prices. That has not happened since the Great Depression of the 1930s.

Greenspan began talking in late May about the threat of deflation. Since then, interest rates set by financial markets have moved significantly lower. The six-month Treasury bill fell this week below 1 percent for the first time in 45 years. The 10-year Treasury note, which is a major influence on home mortgage rates, has dropped by more than a half-point to around 3.2 percent, the lowest since 1958.

"Fed officials are getting the markets to do their work for them," said David Wyss, chief economist at Standard & Poor's in New York. "It is very clear that the markets now expect rates to stay low for some time."

In a speech Wednesday, Federal Vice Chairman Roger Ferguson described the country's near-term economic prospects as "still somewhat clouded" and said "preventing deflation remains preferable to reversing it."

The Fed survey said consumer spending was lackluster in May, and many analysts believe it will not pick up until the unemployment rate turns around.

The jobless rate hit a nine-year high of 6.1 percent in May, the government reported last week, even though the pace of layoffs slowed somewhat.

The Fed's survey detected some improvements in the manufacturing sector. For example, three districts -- New York, Minneapolis and Cleveland -- reported an increase in industrial activity.

The lowest mortgage rates in four decades helped further increase home sales and residential construction. But the survey found that commercial real estate remained in a slump.

The survey found that agricultural production was impaired by wet weather in many parts of the country.