Data-Dependent Monetary Policy
Econbrowser has a good thumbnail sketch of what the Federal Reserve is doing:
Econbrowser: The Fed speaks and markets listen: [M]arkets read the latest FOMC statement as indicating that the Fed is less anxious to raise rates further than many had previously been supposing. That's also quite apparent from the fed funds option prices. On Wednesday, the market had viewed 5.5% as the most likely outcome with 5.75% even a possibility. Now, 5.75% looks pretty far-fetched, and 5.25% has become a more respectable prediction....
For once, I think the market is getting this right. The Fed really would prefer not to raise rates further. They can see the problems ahead for housing as well as any of us, and Bernanke has no desire to plunge the U.S. into a recession just to prove a point to financial markets. On the other hand, he's not going to allow a higher rate of inflation to become established under his watch, and if that means further rate hikes, you can still count on seeing more rate hikes ahead.
Is it possible to keep inflation from rising without causing a recession? I'm not sure. But I remain of the opinion that if anybody can pull it off, Bernanke's the man.
And the tricky part is that the Fed's interest rate decisions now don't have much of an effect on inflation until two years from now. What is inflation going to be two years from now? There is a lot of tightening at the short end still in the pipeline, the effects of which we have not yet seen.