After a period in the Federal Reserve's history during which the risks associated with falling inflation have preoccupied the central bank, Alan Greenspan told Congress last month that recent data suggested "the worrisome trend of disinflation" had presumably come to an end.

The Fed's policymaking open market committee (FOMC) is expected formally to declare victory in its battle against falling inflation when it meets today. Now comes the fight to secure the peace.

According to Mr Paul McCulley, Fed-watcher at Pimco, the fund manager, the challenge lies in communicating with the market.

"The Fed wants Wall Street to adjust gradually to a normalised Fed funds rate without that spilling over into main street," he said.

"The danger in normalising the Fed funds rate is that they undo the good work they have done, without snatching defeat from the jaws of victory," he said.

Since the FOMC's meeting in March there have been three key pieces of data: robust payroll employment growth, a jump in the consumer price index in March, and last week's advance estimate of first quarter gross domestic product.

The US economy expanded in the first quarter at an annualised rate of 4.2 per cent - robust if not as strong as expected. But the Fed's favoured inflation measure - the core personal consumption expenditures index - jumped to 2 per cent from 1.2 per cent in the fourth quarter.

Fed officials have greeted the signs of improved labour market conditions and stabilising inflation while saying that several months of data will be required to establish the new trend.

But inflation appears to be stabilising at a higher level than Fed officials expected a few months ago.

No one expects the Fed to raise interest rates today but there is near unanimity among economists that the FOMC will shift to a neutral inflation outlook, the latest in a series of "verbal tightenings" or, in what Mr Henry Kaufman, the veteran Wall Street economist, calls, "the manners of monetary policy".

Mr Greenspan did not stress inflation risks in his April testimony before the congressional joint economic committee.

He said: "Still significant productivity growth and a sizeable margin of under-utilised resources, to date, have checked any sustained acceleration in the general price level and should continue to do so for a time."

But officials have also stressed that it would be damaging to let inflation expectations take hold when the market is chattering about the Fed being asleep on the job and energy prices are rising.

It would be no surprise if the FOMC drops its assurance that it will be "patient" in raising interest rates.

Investors have reacted to recent stronger data by pushing up long-term interest rates and pricing in a Fed rate increase by August.

Mr Ben Bernanke, an influential Fed governor, has said that expectations are now well aligned with the Fed thinking. Fed officials have stressed that the environment is different from 1994 when the central bank embarked on an aggressive tightening cycle.

In the year before the Fed's first rate increase in 1994, the core personal consumption index excluding food and energy items rose by more than 2.5 per cent. Over the past year it has increased by less than 1.5 per cent.

But Mr Kaufman warns that managing a "mid-course correction" is a difficult task after a long period of low rates.

"A 25 basis point increase in my view will not be greeted well. It will be seen as one of a number of moves that will come from now on," he said.

"The question is whether the shift in Fed policy towards tightening will upset the equity market. I think it might."

The factors that maintained calm at the Fed until now - including low inflation, strong productivity growth and labour market slack - mean the Fed can remain patient when it starts raising interest rates.

Fed officials have said the central bank will watch the data, rather than follow a pre-ordained path. But once the committee starts raising rates - and long before if the strong data continues - the market will price in a series of increases.

"It's all about rhetoric at this stage of the game," said Mr McCulley, "and how far the Fed wants to expose its reaction function now that it has been successful in heading off disinflation." - (Financial Times Service)