Fed Sees Recovery Lagging

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The Wall Street Journal
By: Jon Hilsenrath
June 7, 2011

Bernanke Says Growth Slower Than Expected, Monetary Policy Isn't 'Panacea'.

Federal Reserve Chairman Ben Bernanke offered a relatively glum view of the U.S. economy, acknowledging that it is growing more slowly than the Fed had expected, but predicted improvement later this year.

"The U.S. economy is recovering from both the worst financial crisis and the most severe housing bust since the Great Depression, and it faces additional headwinds ranging from the effects of the Japanese disaster to global pressures in commodity markets," Mr. Bernanke said Tuesday, seeking--as he has before--to moderate expectations that the central bank can solve the economy's lingering problems on its own. "In this context, monetary policy cannot be a panacea."

Mr. Bernanke's assessment erased an earlier stock rally in U.S. markets, sending major indexes in the final minutes of Tuesday's session to their fifth consecutive drop. The Dow Jones Industrial Average closed down 19.15 points, or 0.2%, to 12070.81. The Dow rose as much as 89 points Tuesday afternoon before Mr. Bernanke spoke, but turned negative during the remarks.

The recovery looks to be "continuing at a moderate pace, albeit at a rate that is both uneven across sectors and frustratingly slow from the perspective of millions of unemployed and underemployed workers," Mr. Bernanke said.

The labor-market sluggishness was underscored by Tuesday's report from the Labor Department that the U.S. had 3 million job openings at the end of April, down slightly from March's 3.1 million vacancies. With 13.7 million unemployed in April, there were roughly 4.6 jobless workers for every opening.

The Fed chief's downbeat outlook wasn't good news for businesses and workers across America. Slower economic growth could chill companies' plans to expand and hire. The central banker's view that the recovery will pick up later this year could provide a little reassurance to businesses spooked by the recovery's springtime stall.

The economic update, given in remarks to the American Bankers Association in Atlanta, comes two weeks before a Fed policy makers' meeting amid a challenging mix of conditions. The Fed already has pushed short-term interest rates near zero and bought more than $2 trillion of mortgage and U.S. Treasury debt in an effort to energize financial markets.

Though growth is slow, inflation is up--a situation that leaves the Fed with few appealing next steps. If the central bank pumps more money into the economy, as it tends to do when growth slows, that could make people more worried about inflation--even though the Fed expects inflation to moderate. If it does nothing, growth could remain slow.

The Fed plans to allow a $600 billion bond-buying program to run its course this month. Officials seem highly unlikely to approve more purchases at their June meeting. Still, they appear committed to keeping the Fed's low interest rate policies in place for the foreseeable future.

"Accommodative monetary policies are still needed," Mr. Bernanke said. "Until we see a sustained period of stronger job creation, we cannot consider the recovery to be truly established."

Central-bank policy makers will be updating their official economic forecasts when they gather on June 21 and 22. Some officials already have indicated that they will be lowering their growth projections for 2011 and 2012, given the disappointing performance in the first five months of the year.

In an interview with The Wall Street Journal, Charles Evans, president of the Federal Reserve Bank of Chicago, said he expects the economy to grow by 3% to 3.25% in 2011 and 3.5% to 3.75% in 2012, compared with the 4% growth he expected before a recent string of disappointing economic data.

To achieve these projections, economic growth will need to accelerate from the first quarter's 1.8% pace. Activity in the second quarter doesn't seem to have picked up much. Slow growth is troubling in this environment because it doesn't generate many new jobs. Business payrolls expanded by 54,000 in May, nearly stalling after three straight months of gains around 200,000.

Mr. Bernanke and other officials believe some of the recent shocks to growth--such as the surge in oil prices that has squeezed households and the natural disasters in Japan that disrupted global supply chains--will prove transitory. Inflation is expected to moderate as prices for oil, grains, and other commodities retreat.

"I would like to see 3%-plus growth in the second half and I think it's achievable," Richard Fisher, president of the Dallas Fed, said late last week.

Mr. Bernanke spoke just hours before the World Bank forecast slower U.S. and global economic growth this year than last. The bank, in a report released late Tuesday, said it expects the U.S. economy to grow 2.6% this year, compared with 2.8% in 2010, and remain below 3% through at least 2013. The global economy would expand by 3.2% this year, down from 3.8% in 2010. These forecasts don't include the May data reflecting renewed weakness in the U.S. and other advanced economies.

Global growth in 2012 and 2013 is projected to edge up to just 3.6%, the bank said.

Most developing economies are now larger than they were before the crisis. Their growth is expected to slow to around 6.3% a year through 2013, from 7.3% last year, the bank said.

In high-income countries, meanwhile, growth will slow to 2.2% this year from 2.7% in 2010, according to the bank's forecast. Japan's economy, recovering from its March tsunami and earthquakes, is forecast to not grow at all. Growth in the euro area is forecast to stay below 2% through 2013.

Some investors have speculated recently that the Fed might respond to the growth slowdown by starting a new program of Treasury securities purchases. But officials at the central bank, though not ruling it out, are uneasy with this idea.

"I don't think we're at a point that I would be arguing strongly for a further change in our accommodative stance," Mr. Evans said. The comments are notable, because Mr. Evans was a strong advocate of the $600 billion program when it was introduced in November.

The inflation backdrop is one reason for the Fed's aversion to more securities purchases. Last year, when they announced the $600 billion program, several officials were worried that the economy could slip into a debilitating bout of deflation--a decline in the overall price level. That doesn't look like a risk now. Largely due to a rise in gasoline prices, the consumer price index was up 3.2% in April from a year ago, and excluding volatile food and energy prices, consumer prices have moved up a bit. With the risk of deflation reduced, even the Fed's biggest advocates of the bond purchases last year see no justification for another round now.

Several Fed officials have said in recent speeches and interviews that they are inclined to keep Fed policies easy and on hold for a while.

In addition to keeping short-term interest rates near zero, they could try to reassure investors that they will hold off on reducing the size of their massive bond portfolio as long as the economy is weak.

A few months ago, many investors expected the Fed to begin shrinking the bond portfolio by allowing its bonds to mature without reinvesting the proceeds. Such a wind down would mean less demand for the securities and could in turn put downward pressure on their prices and upward pressure on their yields. Assurances that the Fed is going to hold them, on the other hand, could to help to keep their yields low and help to stimulate the broader economy.

When asked whether it was time for the Fed to shrink its bond portfolio, Mr. Fisher said, "I'm not there right now."

--Sudeep Reddy and Justin Lahart contributed to this article.
Write to Jon Hilsenrath at jon.hilsenrath@wsj.com

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