Fed seen holding rates as inflation unease grows

By Mark Felsenthal

WASHINGTON (Reuters) - The U.S. Federal Reserve on Wednesday is expected to hold interest rates steady and indicate slightly greater unease on inflation, while stopping well short of signalling higher borrowing costs are imminent.

A statement from the Fed's policy-setting Federal Open Market Committee outlining its decision and thinking on the economy is due around 2:15 p.m. (7:15 p.m. BST).

U.S. policy-makers face a deepening housing decline that looks like it will be a drag on economic growth for months to come, even as surging oil and commodity prices threaten to ignite broader inflation.

The Fed lowered the interbank federal funds rate to 2 percent at its last meeting on April 29-30 and has suggested it hopes rate reductions totalling 3.25 percentage points since mid-September will be enough to help the economy rebound from the housing downturn and a credit crunch.

Fed officials have little room to manoeuvre. While they have shown no inclination to lower rates further, they are still concerned about the economy's weakness. At the same time, they are worried that steep increases in food and energy costs could begin to exert upward pressure on a wider range of prices.

"Given the uncertainty about both upside and downside risks, the Fed is likely to stay on hold indefinitely," Deutsche Bank economists Joseph LaVorgna and Carl Riccadonna said in a note to clients.

Reports on Tuesday showed a big drop in U.S. consumer sentiment in June and a continued downward slide in house prices, illustrating the continued risks to growth.

At the same time, news that the largest U.S. chemical maker, Dow Chemical Co., would raise prices by as much as 25 percent and that mining titan Rio Tinto had secured a deal with China's largest steel maker to nearly double the price Rio gets for iron ore raised the spectre of inflation.