Updated from 2:45 p.m. EDT
boosted interest rates Tuesday for the second time in six weeks, and said it would continue to raise rates "at a pace that is likely to be measured."
As was widely expected, the Fed increased its target rate by 25 basis points to 1.50%. But the upbeat tone of the policy statement came as a surprise to investors, particularly after Friday's weak jobs report.
Fed officials acknowledged that output growth has "moderated" and said the pace of improvement in the labor market has "slowed." But the Fed continued to stress that the softness is due to a "substantial rise in energy prices" and said the economy is "poised to resume a stronger pace of expansion going forward."
Some pundits said the central bank was overly optimistic. Peter Morici, a business professor at the University of Maryland, said the statement fails to recognize the drag on growth created by the end of fiscal stimulus.
"Either the Fed revises it plans to continue raising interests through next year, or it risks pushing the economy into a recession," he said.
Diane Swonk, chief economist at Bank One, said while she agrees that the economy should improve over the coming months, after softening in June and July, there are risks to the outlook that the Fed doesn't seem to be acknowledging.
"They basically feel that oil prices are a temporary phenomenon,
but they've been saying that for quite a while," she said. "The risk is we still have higher oil prices six weeks from now."
Swonk also said she was surprised at the Fed's nonchalance regarding the deterioration in the job market. In July, just 32,000 jobs were created, and payrolls for June and May were revised down by a combined 61,000.
Economists and market strategists said the Fed's statement suggests another rate hike in September is still a possibility.
"There was a lot of speculation that maybe they would skip September," said Bill Tedford, director of fixed-income strategy at Stephens Capital Management. "
Greenspan didn't imply that that was on his mind."
As a result, bonds retreated after an early advance, pushing the yield on the 10-year note up to 4.3%.
Jeff Kleintop, chief investment strategist at PNC Advisors, said the Fed displayed "a lot of confidence" about the economy and "didn't broadcast that they would skip the next meeting" as many traders had expected in the wake of Friday's jobs report.
Nevertheless, stocks moved up strongly after the Fed's statement was released, with the
Dow Jones industrial average
climbing 1.3% at 9944. The
was up almost 2% at 1808. The
rose 1.3% at 1079.
Back in June, the Fed raised rates for the first time in four years, saying output continued to grow at a "solid pace" and that the job market had "improved." It also noted that inflation was "elevated" because of "transitory factors" such as high energy costs. Fed Chief Alan Greenspan repeated those claims in testimony before Congress last month.
But since then, oil prices have hit new highs, and the pace of job creation has slowed to a crawl.
Indeed, the Fed's recent rate hikes have come at a time when the economy appears to be decelerating. Gross domestic product rose 3% in the second quarter after a 4.5% increase in the first quarter, and job growth has been deteriorating for four straight months.
While it was important for the Fed to acknowledge the soft economic data in its communique Tuesday, pundits said it was equally important for Fed Chief Alan Greenspan to maintain credibility. Just three weeks ago, he delivered an upbeat assessment of the economy, telling Congress that the weakness in June was simply a "soft patch."
A complete reversal of that stance Tuesday could have undermined Greenspan's reputation and reinforced fears about a more serious retrenchment in economic activity. But some pundits said the Fed now comes across as being out of touch with the markets.
In its statement Tuesday, the Fed reiterated that inflation has been "somewhat elevated" although "a portion of the rise in prices seems to reflect transitory factors." The central bank said the upside and downside risks to the attainment of both sustainable growth and price stability for the next few quarters are roughly equal.
"With underlying inflation still expected to be relatively low, the committee believes that policy accommodation can be removed at a pace that is likely to be measured," the statement read. "Nonetheless, the committee will respond to changes in economic prospects as needed to fulfill its obligation to maintain price stability."
The decision to raise rates Tuesday was unanimous.