Fed Policy Makers May Consider Additional Stimulus as U.S. Economy Slows
Federal Reserve policy makers may start weighing additional steps to prop up the recovery after growth fell below 1 percent in the first half of this year and economists began cutting second-half growth forecasts.
“At a minimum, the FOMC will have a serious debate about the policy options -- what they should do, and what they expect to get from it,” said Roberto Perli, a former associate director in the Fed’s Division of Monetary Affairs, referring to the Federal Open Market Committee. “Growth in the first half was dangerously close to zero,” said Perli, director of policy research at International Strategy & Investment Group.
The FOMC will meet Aug. 9 in Washington after the government marked down its measure of economic growth to annual rates of 0.4 percent in the first quarter and 1.3 percent in the second, casting doubt on the Fed’s June outlook of 2.7 percent to 2.9 percent growth for this year. A gauge of U.S. manufacturing, a main engine for the expansion, slumped last month to the lowest level in two years.
Chairman Ben S. Bernanke said in congressional testimony in July that the Fed may take new action if the economy stalls, including beginning a third round of bond purchases. The central bank could also cut the interest rate it pays banks on excess reserves and pledge to hold its assets at a record high and interest rates at record lows for a longer period, he said.
Any effort by Bernanke to expand the Fed’s $2.87 trillion balance sheet would probably meet resistance from district Fed presidents, including Philadelphia’s Charles Plosser, who have said bond purchases and low borrowing costs have already pushed up long-term inflation risks too high.
During the first half of 2011, so-called core inflation rose while growth of gross domestic product slowed, even as the Fed carried out a $600 billion program in asset purchases known as quantitative easing.
The Fed’s preferred inflation benchmark, the personal consumption expenditures price index minus food and energy, rose at a 2.2 percent annual rate for the three months ending May, up from 0.7 percent pace for the three months ending in January.
“Given current inflation trends, additional monetary stimulus at this juncture seems likely to raise inflation to undesirably high levels and do little to spur real growth,” Richmond Fed President Jeffrey Lacker said in a speech last week. He is a voting member of the FOMC next year.
Dean Maki, chief U.S. economist at Barclays Capital Inc. in New York, cut his projections for growth by a full percentage point for the current quarter and subsequent five. He expects GDP to expand 2 percent from July through September. Economists may further reduce their estimates if the Aug. 5 employment report for July shows another month of job increases below what’s needed to lower the unemployment rate.
A report from the Commerce Department today showed that consumer spending unexpectedly fell in June for the first time in almost two years as a slump in hiring caused households to retrench. Purchases decreased 0.2 percent, after a 0.1 percent gain the prior month. The median estimate of 77 economists surveyed by Bloomberg News called for a 0.1 percent increase.
Treasuries rose, pushing the 10-year yield down four basis points, or 0.04 percentage point, to 2.70 percent as of 9:23 a.m. in New York. The yield earlier touched 2.69 percent, the lowest since November.
Research by James D. Hamilton, a University of California, San Diego economist, explored the idea that measures of economic activity operate differently during periods of economic growth and recession, and that an economy may hit a tipping point and move quickly from one state to another.
Jeremy Nalewaik, a Fed board staff economist, published a paper in April based partly on Hamilton’s research that identified 1 percent growth or less “as a moderately useful warning sign that the economy is in danger of falling into a recession.”
An expansion at that rate may hit a “stall speed,” or a level of growth low enough that the economy loses its momentum and begins to shrink, he said.
Nine of the 11 recessions since 1945 were preceded by at least one quarter of GDP growth below 1 percent in the year before the recession began, according to Nalewaik’s research.
Still, quarters of such low growth don’t always herald recession. Over the time period of Nalewaik’s study, 25 quarters had growth below 1 percent, with 12 of the quarters preceding a shrinking economy.
The Institute for Supply Management said yesterday that its factory index declined last month to 50.9, the lowest since July 2009, from 55.3 in June. Figures less than 50 signal a contraction.
“The Fed will be thinking carefully about all its options,” former Fed governor Randall Kroszner said in an interview yesterday.
“Certainly people will be changing their assessment to be more negative about the economic outlook and that will lead some people to suggest more needs to be done,” said Kroszner, now an economist at the University of Chicago’s Booth School of Business.
Bernanke testified last month that the central bank couldn’t be sure of the impact from additional easing.
“Our experience with these policies remains relatively limited, and employing them would entail potential risks and costs,” he said. “Prudent planning requires that we evaluate the efficacy of these and other potential alternatives for deploying additional stimulus if conditions warrant.”
The Fed’s most recent stimulus backfired, said Conrad DeQuadros, senior economist at RDQ Economics LLC in New York.
“Not only did quantitative easing two not help the economy, it actually hurt it by pushing up prices and eating into real activity,” he said. “Some people on the FOMC might be sympathetic to that view.”
Those policy makers may also be less influential than a core group on the committee that believes high unemployment and low rates of resource use will push prices lower, DeQuadros said.
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