Fed keeps buying bonds at $85 bln monthly pace

By Alister Bull and Pedro da Costa

WASHINGTON (Reuters) - The U.S. Federal Reserve on Wednesday said it would keep buying $85 billion in bonds per month and gave no explicit indication that it was close to scaling back the program, despite intense market speculation it could soon start drawing it to a close.

Describing the economy as expanding moderately, Fed officials cited further improvement in labor market conditions, and noted inflation had been running below the Fed's 2 percent long term goal.

They also reiterated that unemployment is still too high for their comfort, reinforcing their desire to keep buying assets until the outlook for jobs improves substantially, but offered a slightly more upbeat assessment of the balance of risks to the nation's growth.

"The Committee sees the downside risks to the outlook for the economy and the labor market as having diminished since the fall," the Fed said after a two-day meeting.

Kansas City Fed President Esther George again dissented against the Fed's expansion of its support for the economy, expressing concern it could fuel financial imbalances and hurt the central bank's goal of keeping inflation contained.

In something of a surprise, St. Louis Fed President James Bullard also dissented, because he believed the Fed should signal more strongly its willingness to defend its 2 percent goal for inflation.

Fed Chairman Ben Bernanke will be questioned on the difference between tapering bond purchases and tightening monetary policy in a press conference to begin at 2.30 p.m. (1830 GMT).

He will also likely face questions on his future after President Barack Obama hinted in an interview on Monday that the chairman was ready to step down at the end of his current term, on January 31, 2014.

The Fed has held overnight interest rates near zero since December 2008 while more than tripling its balance sheet to around $3.3 trillion with its bond buying.

In its current and third installment of so-called quantitative easing, it is purchasing $40 billion in mortgage-backed securities and $45 billion in longer-term U.S. government securities each month.

Economists expect rates to stay on hold until 2015, but the view in financial markets of the lift-off date had shifted forward since Fed Chairman Ben Bernanke fired up speculation last month that the central bank could soon curb its asset buying.

The Fed repeated on Wednesday that it will not lift interest rates until unemployment hits 6.5 percent or lower, provided that the outlook for inflation stays under 2.5 percent. The jobless rate was 7.6 percent in May.

In fresh quarterly projections, 14 of the 19 members of the Fed's policy-setting committee said they did not think it would be appropriate to raise rates until some time in 2015.

Three officials saw 2014 as the year that rates would lift off from near zero, versus four policymakers back in March. One official continued to anticipate the first rate hike in 2016 and one in 2013.

In a sharp downgrade, the Fed forecast the PCE price index, its preferred gauge of the price pressures facing consumers, would rise just 0.8 to 1.2 percent this year. However, it saw the index heading back to 1.4 to 2.0 percent in 2014 and 1.6 to 2.0 percent in 2015. The Fed has a 2 percent inflation goal.

Furthermore, in a slight upgrade to their projections, officials forecast unemployment to average 6.5 to 6.8 percent in the fourth quarter of next year, and 5.8 to 6.2 percent in the final three months of 2015.

They forecast U.S. economic growth of between 3.0 and 3.5 percent next year and 2.9 to 3.6 percent in 2015.

Analysts think U.S growth slowed a bit in the second quarter of this year in the face of fiscal drag from government spending cuts and higher taxes, and recent readings from the economy have been mixed.

The labor market, a central focus of Fed efforts to boost growth, has notched steady improvement with 175,000 new jobs added in May. But U.S. manufacturers have been hurt by softer overseas demand, and inflation has fallen even further beneath the Fed's goal.

The consumer price index was up 1.4 percent in May from a year ago. But the PCE price index rose just 0.7 percent in the 12 months through April, the most recent reading. (Writing by Alister Bull; Editing by Tim Ahmann and Andrea Ricci)