NEW YORK – Long-term interest rates hit record lows Tuesday after the Federal Reserve acknowledged that economic growth is more sluggish than it expected.
The Fed pledged to keep a lid on short-term interest rates until at least the middle of 2013. Its benchmark federal funds rate has stood near zero for almost two more years.
The Fed's key lending rate acts as an anchor for yields on Treasurys due in coming years. So the Fed's decision will likely keep rates on one-year and two-year Treasury rates from rising, too. Those Treasury notes also happen to be favorite places for banks to park their cash.
The Fed's statement acknowledged that the economy was struggling but offered no real help, said Dan Greenhaus, chief global strategist at the broker BTIG.
"They did nothing," he said. "The concern among investors that a new recession will be met with a weak policy response was validated."
The Fed has targeted a range of zero to 0.25 for its overnight lending rate for banks since December 2008.
The Fed's monthly statements since then have usually said interest rates will be kept low for an "extended period." The promise to keep rates that low for a fixed term, through 2013, could give the economy a lift, said Thomas Simons, money market economist at Jefferies & Co. The Fed's move could push banks to lend, he said.
Eventually, Simons said, lower yields on those Treasurys will encourage buyers who want a better return to look elsewhere. Banks may decide to lend to small businesses and consumers at a higher interest rate, instead of sticking their cash in low-paying Treasurys.
"I think this is what the Fed's intention is," Simons said. "The Fed is thinking at some point this is going to turn into loan creation."
After the Fed released its statement, the yield on the 10-year Treasury briefly touched a record low of 2.03 percent, then quickly headed higher. The 10-year yield, used to set interest rates on a wide variety of loans including mortgages, previously reached a record low of 2.05 percent in December 2008.
By the end of Tuesday trading, the 10-year yield was at 2.26 percent, down from 2.34 percent late Monday. Its price rose 59.3 cents for every $100 invested. The yield on the two-year note settled at a record low of 0.20 percent. Bond yields fall when their prices rise.
Treasury yields were already near their lows for the year, after a stock market on Monday rout sent investors into Treasurys.
Earlier Tuesday, investors bought three-year Treasurys at a record-low interest rate, in the first government debt auction since Standard & Poor's cut the U.S. credit rating.
The Treasury sold $32 billion in three-year notes to yield 0.50 percent. That's a record low borrowing rate for an auction of those notes. Investors placed bids for 3.29 times the $32 billion up for sale, the strongest show of demand since November 2009.
In other Treasury trading, the 30-year bond rose 90.6 cents. Its yield fell to 3.61 percent, down from 3.67 percent late Monday.
In the market for short-term Treasury bills, the three month T-bill paid a 0.02 percent yield. Its discount was 0.03 percent.
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