Federal Reserve officials appear divided in assessing economic risks from the recent credit crunch and drop in employment, suggesting there may be some disagreement on whether or how much to cut interest rates at next week’s meeting of the Fed’s policy committee.
A Fed governor and presidents of several regional Fed banks, speaking at events yesterday, acknowledged that tightening credit conditions could exacerbate the housing sector’s decline. But many also sought to ease some worries that the economy was weakening.
Federal Reserve Bank of San Francisco President Janet Yellen expressed the most concern, noting that downside risks to the economy had risen “appreciably” because of recent credit- and housing-market turbulence. Still, she said, the extent of disruptions from such market turmoil remain uncertain and “can turn out to be surprisingly small.”
“A big issue is whether developments in the relatively small housing sector will spread to the large consumption sector, perhaps through declines in house prices,” Ms. Yellen said. “Should the decline in house prices occur in the context of rising unemployment, the risks could be significant.”
None of the bank presidents speaking yesterday fills one of the rotating voting slots on the Federal Open Market Committee, which meets next Tuesday to decide whether to move the central bank’s target for short-term interest rates. But all 12 presidents participate in the discussion. A cut of at least a quarter percentage point from the 5.25% target is widely expected. Some analysts expect a more aggressive half-point easing to prevent a sharp downturn.
At least until this past Friday, when labor statistics showed the first employment decline in four years, Fed officials had been maintaining their positive stance on the economic outlook, citing relatively strong reports on manufacturing and stronger-than-expected figures for retail and vehicle sales.
Fed governor Frederic Mishkin reiterated those positive signs of business spending last night to a New York audience. But he also warned that “all this could change noticeably if many firms were to face significantly tighter credit conditions or if business sentiment were to soften appreciably.”
Household spending is holding up this quarter, but the market pullback and softness in home prices have damped household wealth and “are likely to restrain consumer outlays,” Mr. Mishkin said in prepared remarks. “Moreover, at least some households are likely to find it more difficult or expensive to borrow, and consumer sentiment — which turned down in August — could soften further if households become more anxious about recent financial market developments.”
The drop in payrolls reported last week raised worries about slower consumer spending in coming months. Federal Reserve Bank of Atlanta President Dennis Lockhart said the labor-market data should be taken “very seriously,” but added that the news also “should be evaluated with recently positive reports in retail sales.”
The head of the Federal Reserve Bank of Dallas, Richard Fisher, referred to the drop in payrolls as an example of an “occasional discordant note” and said he still was evaluating other reports.
“Our economy appears to be weathering the storm thus far,” Mr. Fisher said. “The future path of that storm and the appropriate policy course, however, are still to be determined.”
Much of the outlook turns on whether consumers cut spending because of tighter credit or a softer job market. The Fed said yesterday that consumer borrowing increased at a 3.7% annualized rate in July, a healthy rate though slower than the 5.9% in June and 7.5% in May. Revolving credit, which mainly reflects credit-card financing, increased at a 6.6% rate, while nonrevolving credit, such as car and boat loans, rose at a 1.9% rate.
Consumer credit outstanding increased by more than $7 billion in July to $2.457 trillion, the Fed said. That followed a $12 billion increase in June
