Fed’s less-sunny forecast doesn’t slow stimulus cuts

Washington: The Federal Reserve on Wednesday downgraded its outlook for the US economy this year but forged ahead with the phaseout of its signature stimulus programme.

The nation’s central bank lowered its forecast for growth this year to between 2.1 percent and 2.3 percent, down from its previous prediction of nearly 3 percent. The mediocre expansion is primarily the result of a disastrous winter in which the economy actually shrank by 1 per cent. Though the recovery has picked up speed since then, it is unlikely to make up all of its lost ground. The Fed kept its estimate of the rate of growth next year unchanged, at 3 per cent to 3.2 per cent.

“Economic activity is rebounding in the current quarter and will continue to expand at a moderate pace thereafter,” Fed Chair Janet Yellen said at a new conference Wednesday after the central bank’s regular policy-setting meeting in Washington.

That description of the nation’s economic situation is stronger than the one given after the Fed’s last meeting in April — and enough to persuade officials to continue scaling back support for the economy. The Fed has bought more than $1 trillion in long-term bonds over the past year and a half in an effort to bring down long-term interest rates. Since January, it has slowly reduced its purchases at every meeting. The Fed voted unanimously to cut them by another $10 billion on Wednesday, bringing the amount of monthly purchases to $35 billion.

In its statement, the central bank said that “underlying strength in the broader economy” will support continued improvements in the labor market. The economy has added at least 200,000 jobs a month for the past four months, and the unemployment rate has dropped to 6.3 per cent, a full percentage point lower than it was last summer. Some Fed officials believe the risk of significant inflation rises dramatically once the jobless rate hits 6 percent.

Inflation has ticked up recently, though it remains below the Fed’s target. The government’s tally of price changes rose by 2.1 per cent in May from a year ago, about double the rate of growth over the fall. The Fed’s preferred measure of inflation stands at about 1 percent, compared with the central bank’s 2 per cent target. But it, too, has been rising.

That means the central bank is running out of wiggle room for how long it can keep goosing the economy. Officials reiterated Wednesday that they would probably keep interest rates at zero for a “considerable time” after they wrap up their bond purchases later this year. Yellen previously characterized the language as meaning about six months, putting the first rate hike roughly in the middle of next year. But on Wednesday, she emphasised that the central bank is not locked into a date.

“There is no mechanical formula whatsoever for what a ‘considerable time’ means,” Yellen said. “The answer as to what it means is: It depends.”

But even as the Fed began preparing markets and the public for an interest rate increase, it has tried to offer assurance that the road back up will be smooth and predictable. A chart of where officials predict rates will be in coming years — known as “dot plots” — shows that 11 of the Fed’s 16 top officials believe rates will be below the historical norm of 4 per cent.

That’s a sharp increase from the six officials who supported that idea in the spring. The shift suggests that the Fed believes the economy’s potential is not as great as it once was. In its statement, the Fed repeated guidance stating that rates will probably remain below the normal level even after employment and inflation have hit its target.

“When the Committee decides to begin to remove policy accommodation, it will take a balanced approach,” the statement said.

Yellen said that the Fed will probably revise the official principles guiding its exit from the extraordinary support for the economy later this year. She expressed support for former Fed chairman Ben Bernanke’s suggestion that the central bank will not need to sell its massive portfolio of mortgage-backed securities.

The Fed also marked a new chapter this week, with several fresh faces gathered around the central bank’s mahogany conference table to deliberate on monetary policy.

The meeting was the first for Vice Chairman Stanley Fischer and Fed governor Lael Brainard, both of whom were sworn into those positions this week.

In addition, Loretta Mester joined as head of the Cleveland Fed and has a voting seat on the policy-setting committee this year.