Fed's Evans: rate cuts should prevent recession

By Ros Krasny

CHICAGO (Reuters) - Chicago Federal Reserve Bank President Charles Evans on Thursday hinted he would not support further Fed rate cuts, saying a recent string of interest rate reductions should boost growth in the quarters ahead.

"A relatively accommodative monetary policy is appropriate. At three percent, the current federal funds rate is relatively accommodative and should support stronger growth," he said in a speech to the Chartered Financial Analysts Society of Chicago.

"The policy actions taken in January, in combination with earlier moves, should help promote moderate growth over time and mitigate the risks to economic activity," Evans said in his first remarks on the economy since late November.

Futures markets have fully factored in the likelihood that the Fed at its next policy meeting in March will cut its benchmark overnight federal funds target rate by half a percentage point to 2.50 percent.

The effects of last fall's rate cuts are probably just now being felt, and will kick in more over the next few months, Evans said.

The Fed also needs to be "mindful" of inflation given "disappointing" news on prices, he added.

Earlier on Thursday in congressional testimony, Fed Chairman Ben Bernanke painted a somber picture of risks facing the U.S. economy and financial markets saw his comments as keeping the door open to more rate cuts from the Fed, which has lowered benchmark borrowing costs by 2.25 percentage points since mid-September. The fed funds rate is now at 3 percent.

Evans said real gross domestic product is likely to grow at a "very sluggish rate" in the first half but pick up to near potential by late 2008 and continue at or a bit above that pace in 2009.

Despite his relatively upbeat outlook, Evans said the economy still runs the risks of the kind of "downward spiral" of consumer spending and asset values that other Fed officials have warned of recently.

The Chicago Fed's own monthly National Activity Index is at levels that "indicate a greater than 50 percent probability that the economy is in a recession," Evans said, citing a study he did on the index in 2002.

"Although there are reasons to discount this likelihood somewhat, it is clear that the U.S. economy currently faces substantial headwinds," he said.

The Fed needs to consider its dual mandate of maximum sustainable employment and price stability, Evans said.

"We must also be mindful of inflationary pressures. The recent news here has been somewhat disappointing," he said.

Evans said inflation should moderate over the next two years in the face of slower economic growth and a likely decline in energy and commodity prices. Inflation expectations appear to be contained, he added.

Inflation, despite a recent increase, should moderate over the next two years in the face of slower economic growth and a likely decline in energy and commodity prices, Evans said.