Fed Officials Send Conflicting Signals on Rates

Wednesday, 09 Jun 2010 07:41 AM

 

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Two top U.S. Federal Reserve officials on Tuesday offered opposing signals on the direction of interest rates, highlighting an increasingly salient split within the central bank.

Chicago Fed President Charles Evans argued high unemployment and low inflation justified holding benchmark interest rates at very low levels.

"I think we will continue to have an accommodative policy stance for quite some time," Evans told business leaders in Chicago.

But in a forum in Kansas City, colleague Thomas Hoenig reiterated his call for the U.S. central bank to begin raising rates soon, bringing them to one percent by end of summer from their current rock-bottom range of zero-0.25 percent.

Hoenig represents a vocal minority at the Fed that most analysts do not expect will dissuade its Washington-based board from maintaining the accommodation members believe is needed to sustain a recovery.

Still, the divergence does send mixed signals to financial markets, which are already vulnerable because of ongoing anxiety about Europe's debt problems.

The nervousness and its impact on interbank lending has captured the Fed's attention, with some officials saying it strengthens the case for keeping borrowing costs low.

Evans downplayed the impact of any slowdown in European growth on the United States, saying that the trade effects "are likely to be limited" because Europe accounts for just 15 percent of U.S. exports.

"Nonetheless, if events in Europe evolve so that they have a more severe and broad impact on financial markets, then the scope of the problems for the U.S. could be magnified," he said.

While direct U.S. exposure to European debt is limited, he said, further liquidity or solvency problems in Europe could lead to a pullback by investors and lenders and throttle lending.

The Fed last month opened dollar lending lines to the European Central Bank and other major central banks to head off potential stress in the international banking system from the crisis, but so far they have not been heavily tapped.

Fed Chairman Ben Bernanke said on Monday the U.S. economy appears to have enough momentum to avoid a "double-dip" recession, citing strengthening consumer and business spending.

"There are some signs the private sector is picking up the baton," he said.

In response to the worst financial crisis in generations, the Fed slashed interest rates effectively to zero and undertook a wide range of emergency lending measures to restart frozen credit markets. The Fed has kept short-term borrowing costs near zero since December 2008.

Hoenig said he is leery of this prolonged period of the same easy money that got the economy into trouble in the first place by creating bubbles.

"I'm worried about it," he told the Kansas City Fed forum. "I am very much of the mind that we need to have a stable monetary policy that looks to the long run."

Hoenig said the nation's manufacturing sector, which has bounced back strongly from a steep retrenchment at the end of 2008 and early 2009, will continue to build on this strength.

Housing appears to have stabilized, but commercial real estate will stay weak for some time, he said, adding that he sees U.S. gross domestic product expanding between 3 percent and 3.5 percent.

© 2014 Thomson/Reuters. All rights reserved.

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