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Economists Warn Against More Fed Action

The best cure for the ailing economy now is time.

Financial Crisis
CNBC.com
Financial Crisis

That's the overwhelming opinion of leading economists in a new Associated Press survey. They say the Federal Reserve shouldn't bother trying to stimulate the economy — and could actually do damage if it did.

The economists are lowering their forecasts for job creation and economic growth for the rest of 2011, mainly because of high oil prices. Bleak data released over the past month suggest the two-year-old economic recovery is slowing.

Economists now expect the nation to create 1.9 million jobs this year, about 200,000 fewer than when they were last surveyed eight weeks ago. The unemployment rate, now 9.1 percent, is expected to drop to 8.7 percent by year's end. Economists previously had forecast a steeper drop to 8.4 percent.

Despite their gloomier outlook, 36 of the 38 economists surveyed oppose any further efforts by the Fed to invigorate growth. The Fed already has cut short-term interest rates to near zero. And on June 30 it's ending a program to buy $600 billion in Treasury bonds to keep longer-term rates low in an effort to spur spending and hiring.

The economists say another round of bond-buying wouldn't provide much benefit, if any. And some fear it could make things worse by unleashing high inflation and disrupting financial markets.

When the Fed buys bonds, it in effect prints massive amounts of money. All that extra money in the system raises the nominal value of the things we buy, weakens the dollar, and potentially creates bubbles in the prices of stocks and commodities.

What the economy needs most, said John Silvia, chief economist at Wells Fargo, is time. Consumers must further shrink huge debts amassed in the mid-2000s, he said, and the depressed housing market needs time to recover from a collapse in prices and sales.

"There are no magic bullets," Silvia says. "A lot of this stuff just really needs to be dealt with. It's not a question of stimulus."

The economists surveyed expect the economy to expand at an annual pace of 2.3 percent this quarter, far less than their earlier forecast of 3.2 percent. Their outlook for the July-September and October-December periods, and the full year, has dimmed as well.

Since the economists were surveyed in April, the federal government has said that the economy grew at a scant 1.8 percent rate in the January-March period, and that employers added just 54,000 jobs in April. In the previous three months, job growth had averaged 220,000.

The economists surveyed still expect growth to accelerate in the second half of the year. For all of 2011, they think the economy will expand 2.6 percent, down from their earlier estimate of 2.9 percent.

The survey responses suggest economists had underestimated how severely oil prices, and Japan's earthquake and nuclear crisis, would hurt the U.S. economy. Oil prices have jumped 26 percent over the past year. Twenty-six of the 38 economists surveyed described oil prices as a "major" problem for the economy.

The good news is that the economic damage from Japan's crisis, which caused disruptions in supplies of manufactured goods, should be temporary. And the price of gas has been falling since peaking in early May at $3.98 a gallon — averages $3.70 a gallon now.

So far this year, higher gas and food prices have erased any pay raises workers are getting. Americans have responded by spending less than they might have on other things, such as clothing and household goods. Consumer spending drives about 70 percent of the economy.

Maury Harris, chief U.S. economist at UBS Securities, said he was surprised by how much higher gasoline prices caused people to cut back. Harris had expected consumers to reduce savings instead. He thinks that means people expect higher gas prices are here to stay.

A political impasse over federal budget cuts, combined with Europe's debt crisis, is also creating uncertainty and undercutting confidence, some of the economists noted.

"Business and consumer confidence is extremely fragile, and the headlines never seem to settle down," says Christopher Rupkey, chief financial economist at the Bank of Tokyo-Mitsubishi UFJ.

President Barack Obama, speaking Monday at a clean-energy plant in Durham, N.C., said Washington's preoccupation with the budget is really about jobs.

"The thing I want to emphasize is that we need to solve our medium- and long-term debt and deficit issues not for abstract reasons, but because they are a concrete impediment to growth and jobs," Obama said.

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