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Rate Cuts Are "Quite Possible": Fed's Lacker

Weaker U.S. growth means that more interest rate cuts are "quite possible" but policy-makers cannot ignore inflation, Federal Reserve Bank of Richmond President Jeffrey Lacker said Friday.

"A slowing economy requires lower real interest rates because it means a softer relative demand for resources now compared to the future," Lacker told the Risk Management Association of Richmond.

"And the current downside risks mean that further slowing, and thus further easing, is quite possible. But inflation also presents risks," he said.

It was a major shift in tone for one of the Fed's arch hawks, who voted repeatedly against rate cuts in 2006. Lacker said that his opinion had been altered by the weak December employment report, when just 18,000 new jobs were created.

"The incoming data arriving in the last several weeks has certainly made me more willing to contemplate rate cuts. It has certainly altered the outlook," he told reporters.

Inflation Still High

On inflation, he made plain that it could be put aside as a concern in the very short term, while the fed tackles weaker growth, but has to remain on the radar screen.

"Inflation is still higher than I would like to see it personally ... I just don't think it is a sensible strategy to put our inflation objectives on the shelf for the duration," he said.

In response to audience questions, Lacker noted that one of the influences on rising prices was the dollar's declining value against other major currencies, which makes everything from imported oil to consumer goods more costly.

"The falling value of the dollar externally obviously provides some impetus to inflation domestically through input prices," he said. The dollar has lost value amid concerns about U.S. economic prospects and because investors foresee U.S. interest rates declining.

The Fed has cut interest rates by a full percentage point since mid-September to protect the U.S. economy from a slumping housing market, which in August sparked a global credit crunch.

Investors expect the Fed to cut benchmark overnight rates by a further 50 basis points at its next meeting on Jan. 29-30, and Lacker's comments reinforce this view.

Lacker said he had lowered his growth forecast, but still expects the economy to grow.

"I believe the most likely outcome is for growth to continue and to improve," he said in the speech.

Lacker told a questioner that he was not concerned about the fact that U.S. financial institutions like Citigroup and Merrill Lynch were increasingly seeking investment from abroad to prop up their capital after incurring huge losses huge losses on sublime mortgage-related debt.

He said the fact that foreign countries were willing to invest in the United States had helped keep U.S. interest rates lower in this decade than they otherwise would have been.

"I'm not troubled by the form of the investments that we've seen so far. I think our corporate governance mechanisms are robust enough to keep those firms running on a healthy basis,"

Lacker said. "I don't see it as a threat to capital markets."

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