UPDATE 1-Credit squeeze to hit U.S. economy hard - economists
(Adds Fed officials' reactions paragraphs 3-5, 9-12)
NEW YORK, Feb 29 (Reuters) - U.S. subprime mortgage delinquencies and the credit squeeze of the past year will trigger $400 billion in losses to the U.S. financial system and knock 1.3 percentage points from economic growth in 2008, according to a paper released on Friday by four leading economists.
"While these estimates have many caveats, they still suggest that the feedback from the financial market turmoil to the real economy could be substantial," a quartet of academic and Wall Street economists wrote in a paper presented at a monetary policy forum organized by the business schools of the University of Chicago and Brandeis University.
A senior Federal Reserve official said the estimate of the drag on U.S. economic growth caused by the rising default rate in the U.S. home mortgage market and subsequent global credit squeeze may be off the mark.
"Although this number is not implausible, there are reasons to be suspicious of it," said Fed Governor Frederic Mishkin, who delivered a response to the paper at the same forum.
"It might overstate the impact of the decline in leveraged institution lending on the economy ... on the other hand, the estimated impact on the economy could be too low," he added.
The economists said half of the $400 billion in losses will be borne by leveraged U.S. financial institutions, many of which took risky bets on subprime mortgage securities that turned sour when delinquencies rose.
RETREAT FROM LENDING
The paper's authors -- David Greenlaw of Morgan Stanley, Jan Hatzius of Goldman Sachs, Anil Kashyap of the University of Chicago, and Hyun Song Shin of Princeton University -- said that as hard-hit financial institutions shore up their capital bases, they will retreat from extending credit to the tune of about $910 billion.
A drying up of credit availability will cause businesses and consumers to pull back from spending and investing, the authors said.
Mishkin said he agreed with the author's basic premise that problems in the relatively small market for subprime mortgages reverberated more widely because they caused a dramatic pullback in lending.
But Mishkin said he believes current financial turmoil is the result of the broader difficulty the financial system is now having in channeling funds to productive investments and is not confined to those institutions worried about too-thin capital cushions.
Boston Fed President Eric Rosengren, who spoke at the same conference, said that while some large institutions have experienced significant write-downs as a result of their exposures to soured credits, they have been able to attract new capital.
Also, he added that while there is a risk that balance sheet constraints could become more widespread among banks if house prices fall further, lower interest rates should help stabilize housing markets.
SLUGGISH GROWTH
The paper comes shortly after the Fed itself presented a gloomy outlook for the economy in months to come as it struggles with a deep housing slump, tighter credit and financial market turbulence. Fed Chairman Ben Bernanke, whose own academic work includes extensive study of how financial market malfunction hurts the broader economy, told Congress this week he expects sluggish growth in coming quarters.
The economy expanded at a meager 0.6 percent in the final months of 2007 on annualized basis, and some analysts forecast recession this year. The Fed's forecast is for growth between 1.3 percent and 2.0 percent, and Bernanke has said the Fed is not forecasting recession.
Meanwhile, the economists said in their paper on Friday that stress to financial markets in recent months has surpassed anything in the past 18 years, including the failure of the Long Term Capital Management fund and the 1990-91 U.S. savings and loan crisis, citing elevated risk premiums being charged in money markets.
Adding to the dour projection, the economists said that housing markets will be harder pressed to recover in the current episode than after past housing busts. This is because credit standards were more lax during the most recent boom, and because so many adjustable rate mortgages are due to reset at higher levels. (with additional reporting by David Lawder in Washington)
