Fed wary of fallout hurting economic growth, credit markets healing

FE Team | Published: October 07, 2007 00:00:00 | Updated: February 01, 2018 00:00:00

LOUDONVILLE, New York, Oct 6 (Reuters): Federal Reserve Board Governor Kevin Warsh said Friday that credit markets were on the mend after August's turmoil, but some sectors remained sickly and the Fed was wary of fallout hurting economic growth.
"The functioning of several markets continues to be strained, a condition which I would expect to continue for a while," Warsh told the New York State Economics Association.
"Consequently, my colleagues and I on the FOMC (Federal Open Market Committee) will continue to assess the effects that these and other developments could have on the prospects for the economy. We will rely not only upon economic modeling, but also real-time, forward-looking indicators to help inform our policy judgments," he said.
Given a steady jobs report Friday, markets are less sure if the Fed will cut rates again in October, although most still expect another rate cut by the end of the year.
The Fed cut interest rates by a half percentage point to 4.75 per cent on September 18 to shield the economy from a global credit crunch that erupted in August after slumping US housing triggered a wave of subprime mortgage defaults.
Warsh said it was premature to judge the ultimate effects of the rate cut on markets or the economy.
"Our dashboard of financial indicators, however, points to some encouraging signs, suggesting that financial conditions might be normalising somewhat," he said.
In particular, he noted that credit-worthy borrowers were able to access markets to raise finance and that spreads in the interbank and commercial paper market had narrowed, while the "runoff" of funds out of commercial paper was slowing.
In response to an audience question after the speech, Warsh added: "The more the risks are dispersed, the harder for a central bank to know where they rest," he said. "But we have a pretty good dashboard."
As for the economic fallout from financial market turmoil, Warsh said that economic strength in overseas economies would serve as a buffer, as well as the underlying resilience of the U.S. economy.
The Fed was also monitoring the outlook for inflation, Warsh said, and although he did not spell out how he expected this to evolve, he made plain that the recent weakness of the dollar could have an impact.
"We constantly review inflation expectations, as measured by spot and forward TIPS (Treasury inflation protected securities) spreads, surveys, commodity prices, and foreign exchange values," he said.
When asked about rising food prices, Warsh said the central bank looks at all price components but it is overall price stability that the Fed has to achieve.
The dollar has notched record lows against the euro in recent weeks, and Fed Vice Chairman Donald Kohn noted in a separate speech on Friday that this could put upward pressure on the price of imported goods, and hence consumer inflation.