Fed's Lacker Says 'Mild Recession' Possible


The most likely path for the US economy is sluggish growth for at least half a year before a

gradual recovery begins, Richmond Federal Reserve Bank President Jeffrey Lacker said, and it may not need any more interest rate cuts from the Fed.

"My expectation that growth is likely to be sluggish this year figured prominently in my thinking about policy last month, however, so if incoming data is not weaker than expected over the next several months, its not clear further rate cuts would be warranted," he told the West Virginia Bankers Association in Charleston.

"But I can also see the possibility of a mild recession," Lacker said, "similar to the last two we have experienced -- in other words, shallow and with a slow recovery," and not like the more severe downturns of 1982 or 1984.

Monetary policy has already moved aggressively to fend off a recession but that doesn't mean the threat is gone and and the recent flow of data has heightened the downside risks. So, "in my view, the prominence of downside risks means that further easing ultimately may be warranted," Lacker said.

One big question will be consumer spending -- 70 percent of the total economy -- which is now under threat from a lack of job growth. The Labor Department just reported a decline in payrolls, "and in our own surveys of economic activity in the Fifth District, we are hearing that an increasing number of firms have cut back on hiring plans recently. Other indicators are flashing less discouraging signals, however. My own expectation is that job growth will be lethargic, at best, for much of this year," Lacker said.

The other big question is business investment, which he expects to grow "less robustly than in 2007, since some firms are experiencing a higher cost of capital and most firms face an uncertain demand for their products."

The economic risks are not limited to growth, Lacker warned, and inflation has "stepped up" recently. That could be temporary. More important in his mind is the Fed's longer-term inflation-fighting credibility.

"Throughout the period since 2005, when inflation rose, eased off, then rose again, longer-term inflation expectations have remained fairly stable. This has been comforting, and makes it easier for me to support interest rate cuts when a weakening outlook calls for it," he said. But, the longer we go experiencing only upside inflation misses, however, the more we risk losing the credibility we have fought so hard to maintain."