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Fed lowers GDP forecast, holds policy steady

Fed lowers GDP forecast, holds policy steady
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First Published: Thu, Nov 03 2011. 01 12 AM IST

Updated: Thu, Nov 03 2011. 01 12 AM IST
Washington: The Federal Reserve on Wednesday slashed its forecast for economic growth, raised projections for unemployment and suggested Europe’s debt crisis posed big downside risks to the US economy.
However, it took note of strengthening in the US economy in the third quarter and held monetary policy steady.
While the US central bank offered no direct hints it was considering fresh steps to help the economy in a post-meeting statement, one official pushed for action. In the end, the Fed mustered a 9-1 vote for a steady course.
At a mid-afternoon news conference, Fed Chairman Ben Bernanke offered a measured assessment of the strains facing the economy.
“While we still expect that economic activity and labor market conditions will improve gradually over time, the pace of progress is likely to be frustratingly slow,” he said.
“Moreover, there are significant downside risks to the economic outlook, most notably concerns about European fiscal and banking issues (that) have contributed to strains in global financial markets, which have likely had adverse effects on confidence and growth,” Bernanke added.
He said the US central bank was “closely” monitoring developments in Europe and left open the possibility that the Fed could expand its holdings of mortgage debt if US economic conditions worsened.
“I do think that purchases of mortgage-backed securities is a viable option. Certainly, something we would consider if the condition were appropriate,” Bernanke said.
Weak signals
In fresh quarterly projections, the Fed lowered its forecasts for growth and raised its forecasts for unemployment for this year, 2012 and 2013. Policymakers did not see the jobless rate, now at 9.1%, falling to a level they consider consistent with full employment even at the outer edge of their forecasting horizon, the final quarter of 2014.
Officials now expect the world’s largest economy to grow by a tepid 2.5% to 2.9% next year, down from the rosier 3.3% to 3.7% they were expecting in June.
They saw the unemployment rate going no lower than 8.5% to 8.7% by the end of 2012, up from the more sanguine 7.8% to 8.2% range envisioned in June.
Fed officials believe the economy will have reached full employment when the jobless rate drops to between 5.2% and 6%. In their forecast, the unemployment rate would still be at 6.8 % to 7.7% at the end of 2014.
No sign of imminent policy shift
Bernanke has called the lofty level of US unemployment, which has held above 9% for the past five months, a national crisis. Some officials at the central bank have urged new steps to foster stronger growth.
Charles Evans, president of the Chicago Federal Reserve Bank, dissented on Wednesday because he wanted the central bank to ease policy at this meeting. Three officials who had voted against an easing in September supported the consensus.
Leading up to the meeting, Fed officials had been debating the possibility of further purchases of mortgage-backed securities and a potential overhaul of the Fed’s communications policies. Evans has suggested the Fed keep interest rates near zero until the unemployment rate reaches 7%, unless inflation threatens to rise above 3%.
Bernanke made clear the central bank is keeping its options open, and said a discussion of a new communications framework did not mean the Fed would depart from its focus on employment and inflation. Some economists have urged the Fed to consider targeting nominal GDP.
US stocks held earlier gains after the statement was released, while prices of 10-year Treasury notes slipped.
“All eyes are quickly going to jump across the Atlantic to the south of France and the G20 comments on what is happening in Europe,” said Karl Mills, president of Jurika, Mills & Keifer Investment Partners in Oakland, California, referring to a summit of leaders from the Group of 20 nations this week that will focus on taming Europe’s debt crisis.
The US central bank’s debate over the course of policy, including the idea of setting specific levels of unemployment and inflation as policy triggers, comes against a troubled global backdrop and with the US economy far from full health.
Greece’s call for a referendum on the latest euro zone debt deal dashed hopes Europe had finally come to grips with its debt crisis, sending global equity markets into a tailspin.
The US recovery remains anemic and could be knocked off course if Europe fails to quell its crisis, a concern the Fed alluded to.
The economy grew at a 2.5% annual pace in the third quarter, a significant improvement over the second quarter’s 1.3% increase but still too soft to put a dent in the nation’s unemployment rate.
Faced with a still-weak recovery, the Fed in September embarked on a program to sell $400 billion in short-term Treasuries and invest the money in longer-dated bonds, an effort to keep long-term rates down.
It also dipped back into the mortgage market by reinvesting proceeds of its real estate bond holdings back into MBS.
Those actions followed an already aggressive series of steps to try to lift the economy. The central bank slashed benchmark interest rates effectively to zero in December 2008 and expanded its balance sheet to a record $2.8 trillion.
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First Published: Thu, Nov 03 2011. 01 12 AM IST