Fed starts meeting, seen letting bond buys lapse

U.S. Federal Reserve Chairman Ben Bernanke pictured on Capitol Hill in Washington July 22, 2009.

WASHINGTON (Reuters) - The U.S. Federal Reserve began a two-day meeting on Tuesday that is expected to leave benchmark interest rates near zero and let a program to buy Treasury securities expire as economic gloom begins to lift.

The Fed began its meeting at around 2 p.m., an official of the central bank said. A policy statement is expected to be issued at around 2:15 p.m. on Wednesday.

The Fed will balance damping down anticipation that it will raise interest rates soon as evidence mounts the deep U.S. recession is ending while not flattening confidence that the makings of a recovery are at hand.

Fed officials will take note of signs the battered job market may be stabilizing after the unemployment rate dipped to 9.4 percent in July from 9.5 percent the previous month. Still, the large swath of workers that have given up looking for work tempers any exuberance that labor markets will bounce back quickly.

Policymakers are unlikely to substantially alter the outlook Bernanke spelled out in July that calls for the economy to stabilize but grow sluggishly in the second half of the year, with persistently high unemployment well into 2010.

"The recovery will likely be bumpy and relatively slow, as financial and economic headwinds are only gradually giving way to tailwinds," Morgan Stanley Research economists Richard Berner and David Greenlaw wrote in a research note.

Policymakers are sensitive to risks that early signs the recovery could be around the corner may prove fleeting as money from car buying and other stimulus programs dries up and the high jobless rate drags down consumer and business spending.

Against that backdrop, the Fed is unlikely to substantially alter its pledge to keep rates -- which are near zero -- low for a long time.

The Fed is also aware of worries that its extraordinary measures to pump money into the economy with interest rates as low as they can go has raised the danger of unwelcome inflation when economic growth takes hold. Fed Chairman Ben Bernanke has taken pains -- even penning an article for the opinion page of the Wall Street Journal -- to argue the Fed can keep inflation at bay even with a bloated balance sheet, in large part by paying interest on bank reserves.

With that priority in mind, the Fed looks set to end its $300 billion Treasury buying program, which is scheduled to expire in September.

The effectiveness of the Treasury buying program is controversial, some analysts believe, making it harder to argue for its extension.

(Editing by Neil Stempleman)