Fed's Yellen says U.S. appears to be in recession

Storm clouds gather over the U.S. Federal Reserve Building before an evening thunderstorm in Washington June 9, 2006. Picture taken June 9, 2006.

PALO ALTO, California (Reuters) - The U.S. economy "appears to be in a recession" as the financial market crisis bites deeply, San Francisco Federal Reserve Bank President Janet Yellen said on Tuesday.

"The outlook for the U.S. economy has weakened noticeably, and inflationary pressures have substantially abated," Yellen said in a speech to the Financial Executives International's Silicon Valley chapter in Palo Alto, California.

"Virtually every major sector of the economy has been hit by the financial shock."

Yellen, who is not a voting member of the interest-rate setting Federal Open Market Committee this year, said the just-ended third quarter probably showed "essentially no growth at all" in the U.S. economy, and that worse lies ahead.

"Growth in the fourth quarter appears to be weaker yet, with an outright contraction quite likely," she added.

Yellen said she "strongly supported" last week's coordinated interest rate cut by the Fed and other major global central banks, but did not indicate if she thought another cut was needed.

Financial markets suggest the Fed will lower its benchmark fed funds rate by one-quarter point to 1.25 percent at its October 28-29 Federal Open Market Committee meeting.

Yellen said there was no clear end in sight for the housing downturn that has helped precipitate the crisis in United States and global financial markets.

"Inventories of unsold new and existing homes remain at very high levels, making it difficult to predict with any confidence when housing starts will bottom out," she said. "The bottom for house prices is not obviously in sight."

Meanwhile, auto sales, another key element of the U.S. economy, have been crippled in part by reduced access to auto loans as credit availability shrinks.

INFLATION OUTLOOK FLIPS

At this point, financial market turmoil is in a vicious cycle with weakness in the broader economy, sucking the "borrowing, spending, and hiring decisions of households, firms, and state and local governments" into the vortex as well, Yellen said.

"It is because of such impacts that the turmoil in financial markets affects the prospects for growth and job creation in the months and years ahead," she said.

Inflation is retreating rapidly in line with falling energy and commodity prices and rising slack in the labor market, and could even overshoot to the low side, Yellen said.

"Some prominent forecasters at this stage are concerned that inflation in future years could decline to levels below what is consistent with price stability," she said.

Yellen said policymakers around the world are working "rapidly and forcefully" to resolve financial crisis that has become global in scale.

"The global economic outlook depends on how well these policies succeed."

(Writing by Ros Krasny in Chicago; Editing by Kazunori Takada)