The Federal Reserve System is concerned about the inflationary impact
of higher fuel prices in the United States.  Already they have reduced
the GDP Growth forecast by .75% (three-quarters of one percent) which
isn't huge but large enough that it could prevent the unemployment
from dropping to a full employment level.  Therefore, the FRS faces a
policy dilemma.  They can decrease interest rates or hold them
constant to encourage more growth in GDP or they can raise them
slightly in an attempt to control
the rising level of inflation.   Which choice is best?

I'm not an expert, but the fuel price rise of the recent several years
is not much more than the average for other commodities, housing,
medical costs and food. Fast food is still cheap, but is
non-essentual, perhaps harmful. Our apparent low inflation rate has
been acchieved by excessive weighting of the cheap knock offs (mostly
non-necessities) that The USA imports from China and other 3d world
countries.   Neil

Energy prices (by index) have risen from 114.3 in Jan 2002 to 152.4 in Sep 2004.
http://research.stlouisfed.org/fred2/data/CPIENGSL.txt

Non-energy prices (by index) have risen from 186.0 to 195.3 over the same time.
http://research.stlouisfed.org/fred2/data/CPILEGSL.txt

So energy prices (similar or exact to fuel prices depending on how you
define fuel) rose 33% while non-energy rose 5% over that 1 3/4 years.

Clearly fuel costs have risen MUCH quicker than the costs of other
goods on average over the last couple years.  However, the economy is
still growing at a respectable rate over 3% per year.
Since goods other than fuel have had a normal inflationary rate
(between 2% and 3% which seems to be the target in the last 12 years),
I find it unlikely that the FED will be concerned about inflation as a
whole right now.  And since GDP growth has been at a good rate I find
it likely that they will continue to edge up interest rates knowing
that the growth in the economy will continue at or above 3% per year.

The correct policy response to a spike in oil prices depends largely
on the state of the economy at the time of the shock. If the economy
is operating below long-run productive capacity, then higher oil
prices are more likely to slow the economy than raise inflation. This
is because higher oil prices act as a tax on both firms and consumers,
reducing profits and disposable income. In this case, the Fed should
ease policy to support demand. Conversely, if the economy is operating
above productive capacity, then higher oil prices are likely to boost
inflation because firms will try to pass along the higher energy costs
to consumers. In this event, the Fed should tighten policy to reduce
demand and contain inflation.

In November 2004 the US economy was operating well below its capacity
limits. Therefore, it was appropriate for the Fed to respond to the
sharp increase in oil prices by maintaining an accommodative policy
stance, that is, by keeping short-term interest rates well below their
normal levels.

Ah, intermediate schoolbook macro-econ at its finest.

Notice how since November 2004 the Fed has increased interest rates
1.75% (from 1% to 2.75%) since then and there is still concern over
inflation.  We can all be glad that the Fed doesn't get their
economics advice from college students or intermediate macro-econ
books.