Fed meeting begins, market bets on steep rate cut

By Alister Bull

WASHINGTON (Reuters) - The U.S. Federal Reserve began a two-day meeting on Tuesday that is widely expected to lead to a cut in interest rates of at least a half-percentage point to calm a global credit crisis threatening the economy.

A Fed official said the gathering got underway at about 2 p.m. (6 p.m. British time). The policy-setting Federal Open Market Committee is expected to announce its decision around 2:15 p.m. (6:15 p.m. British time) on Wednesday.

Ten out of 14 big bond firms polled by Reuters forecast the U.S. central bank will opt to lower the overnight federal funds rate target a half point to 1 percent.

That would be the lowest since June 2004 when the Fed was fighting a perceived risk of deflation, a danger some fear is about to re-emerge.

Financial futures markets were even more gloomy, implying a 44 percent likelihood the Fed would lower borrowing costs by a dramatic three quarters of a point, which would take them to territory not visited since July 1958.

Some market participants think the Fed may be on the way to cutting rates all the way to zero, as Japan was forced to do to counter deflation in the 1990s. A more-forceful three-quarter point cut would be insurance against a deflation risk.

However, other analysts said the the lack of a clear deflationary threat at this stage may lead the Fed to opt for the more-incremental half-point move.

"Given that deflationary forces from the collapse of the credit cycle have still not been seen, the FOMC may be reluctant to deliver a larger rate cut," said Marc Chandler, chief global currency strategist at Brown Brothers Harriman.