Federal Reserve, acknowledging slowdown, reins in forecasts for economic growth

The economic recovery is slowing and the outlook for next year has gotten worse, Federal Reserve Chairman Ben S. Bernanke said Wednesday, backing away from the view that the slowdown of the past few months was merely temporary.

The central bank released new economic projections that showed weaker growth in both 2011 and 2012 than had been forecast just two months ago. Despite the slowdown, the Fed said it will end a program of buying vast sums of Treasury bonds at the end of June as scheduled and gave no sign it is contemplating new action.

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The Federal Reserve has acknowledged that the economy is growing more slowly than it expected, but will complete its $600 billion Treasury bond buying program by June 30 as planned. (June 22)

The Federal Reserve has acknowledged that the economy is growing more slowly than it expected, but will complete its $600 billion Treasury bond buying program by June 30 as planned. (June 22)

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Running in the red

Part 1: How the U.S. detoured to massive debt

But Bernanke, whom markets turn to as a purveyor of economic wisdom, said the Fed had no solid answers as to why, two years into an economic recovery, growth keeps disappointing.

“We don’t have a precise read on why this slower pace of growth is persisting,” Bernanke said in a news conference Wednesday afternoon. He suggested that problems in the financial sector and the housing market, and with consumers trying to pay down their debt, had been underestimated. “Some of these head winds may be stronger or more persistent than we thought.”

Even as the central bank’s leaders lowered their expectations for the days immediately ahead, a different set of government economists offered a dire long-term forecast for the federal government’s fiscal health. The nonpartisan Congressional Budget Office estimated that the rising cost of Medicare, Medicaid and Social Security would, if left unchecked, lead to a national debt twice as big as the economy.

The CBO report highlighted the quandary confronting the United States: a weak economy in the near term and huge deficits in the longer run. Bernanke on Wednesday cautioned against conflating the two problems.

“Our budgetary problems are very long-run in nature,” said the Fed chairman, noting that the CBO projections go to 2025 and beyond. “That doesn’t mean we should wait to act. The sooner we can act, the better. But the most efficient and effective way to address our fiscal problems . . . is to take a long-run perspective, not to focus the cuts heavily on the near term.”

The Fed left its policy of ultra-low interest rates unchanged and will continue to hold massive amounts of securities in a bid to foster growth. But it confirmed Wednesday that it will let its policy of buying $600 billion in Treasury bonds expire at the end of this month, as has long been the plan. That brings to an end the controversial round of quantitative easing — or QE2, as it became known — enacted in November to boost the economy.

Extending the old metaphor that the role of a central bank is to take away the punch bowl just when the party gets good, economists at Bank of America Merrill Lynch wrote that “with so many parts of the economy like somber wallflowers, the Bernanke-led Fed is keeping the punchbowl filled but not spiking the drinks any further at this time.”

That’s because not all economic arrows are pointing in the wrong direction.

“The situation is different today than last August,” when the Fed began considering what became the QE2 policy, Bernanke said, in that inflation is higher and job growth is stronger, though employment weakened a bit in May.

The central bank’s new economic projections show how quickly the nation’s economic outlook has deteriorated since the last Fed projections were made in April.

Gross domestic product will rise 2.7 to 2.9 percent this year, Fed officials now project, which is too slow to put Americans back to work in any large numbers. Two months ago, they thought growth would be just over 3 percent. In January, they saw growth approaching 4 percent.

The long-term growth path for the economy is in the range of 2.5 to 2.8 percent, according to the Fed’s estimates, implying that growth this year will be fast enough to bring unemployment down only at a glacial pace.

That weaker 2011 growth is driven in part by temporary factors such as the run-up in oil prices over the first few months of the year and the supply disruptions caused by the Japanese earthquake. However, the adjustments the Fed made to its 2012 forecast show that the leaders of the central bank see a longer-lasting malaise.

Their 2012 forecasts, meanwhile, now show growth of 3.3 to 3.7 percent, compared with the 3.5 to 4.2 percent projected in April. The forecast for 2013, by contrast, is little changed.

The Fed projections have unemployment falling to somewhere between 7.8 and 8.2 percent, from the current 9.1 percent, by the fourth quarter of 2012, when the presidential election will be held.

Bernanke did give a bit of new clarity on what the Fed would do if the situation worsened — if the economy seemed to be falling back into recession or if deflation, a dangerous cycle of falling prices, became a risk.

“We’ll continue to look at the outlook and act as appropriately as the news comes in and the projections change,” Bernanke said. “We do have a number of ways of acting. None of them are without risks or costs.”

He mentioned several possible steps: making more purchases of securities, which would expand the money supply and put downward pressure on interest rates; cutting an interest rate that banks are paid for money they park at the Fed; or giving more specific promises for how long the Fed will keep its target interest low and its big balance sheet in place.

 
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