US Fed signals likely pause in rate hikes on easing inflation

20 July 2006

US Fed chairman Ben Bernanke expects US inflation to ease over the next couple of years as economic growth slows down to a more moderate pace. In his testimony to the banking committee of the US Senate, the Fed chief gave many indications that the Fed would prefer to stop raising interest rates if economic indicators give enough signs of a slowdown.

Statements by Bernanke clearly indicated that the Fed is worried about hiking interest rates too far and causing a considerable decline in economic growth rates. US stock markets rallied yesterday after the testimony on expectations that the Fed would indeed stop hiking interest rates, at least for a brief period.

The Fed expects the US economy to real GDP to increase about 3.25 per cent to 3.5 per cent in 2006 and 3 per cent to 3.25 per cent in 2007. "Overall, the US economy seems poised to grow in coming quarters at a pace roughly in line with the expansion of its underlying productive capacity," Bernanke said in a prepared statement read out before the Senate committee.

"The US economy appears to be in a period of transition. After several years of above-trend growth, slack in resource utilisation has been substantially reduced. As a consequence, a sustainable, non-inflationary expansion is likely to involve a modest reduction in the growth of economic activity from the rapid pace of the past three years to a pace more consistent with the rate of increase in the nation's underlying productive capacity", Bernanke said in the statement.

The Fed is maintaining its outlook on global economic growth. "Globally, output growth appears strong. Growth of the global economy will help support US economic activity by continuing to stimulate demand for our exports of goods and services. One downside of the strength of the global economy, however, is that it has led to significant increases in the demand for crude oil and other primary commodities over the past few years", the statement said.

Bernanke said projections by the Fed based on current data are "for a gradual decline in inflation in coming quarters. As measured by the price index for personal consumption expenditures excluding food and energy, inflation is projected to be 2.25 per cent to 2.5 per cent this year and then to edge lower, to 2 per cent to 2-.25 per cent next year."