(Recasts, adds details from research note)
NEW YORK May 10 Morgan Stanley said on Monday
it expects the Federal Reserve to stick to its near-zero
interest rate policy until early 2011 in the wake of the
sovereign debt crisis in Europe and its fallout on global
The U.S. investment bank had previously forecast a
September increase in short-term interest rates.
Once the Fed begins to raise rates, the central bank's
target rate on federal funds, or overnight loans of excessive
reserves between U.S. banks, will climb to 2.50 percent by the
end of next year, Morgan Stanley said.
The bank also downgraded its outlook on the 10-year U.S.
Treasury yield. It sees the benchmark yield rising to 4.50
percent by year-end, 1 percentage point lower than its previous
"The European sovereign credit crisis, its threat of
contagion beyond Europe, and its effect on inflation
expectations is the key reason for these significant changes,"
Morgan Stanley said in research note.
Morgan Stanley had been one of the few top Wall Street
firms to have forecast a dramatic spike in U.S. yields in the
second half of the year due to heavy federal borrowing and
accelerating U.S. economic growth.
It said the threat of the European debt crisis slowing U.S.
growth will be limited, for now, after euro zone nations and
the International Monetary Fund unveiled a $1 trillion rescue
package over the weekend in an effort to restore market
Fears of contagion from the debt woes of Greece and other
weaker euro zone members have battered those nations' debt and
global stock markets.
"We believe that the spillover to U.S. growth will be
muted, as contagion will mainly affect European banks, credit
availability in Europe, and European growth," Morgan Stanley
economists Richard Berner and David Greenlaw wrote in the
They upgraded their forecasts of real U.S. growth in 2010
to 3.5 percent from their earlier estimate of 3.2 percent. They
also raised their 2011 GDP outlook to 3 percent from a previous
forecast of 2.5 percent.
The Fed adopted a near-zero rate policy in December 2008 in
a bid to combat a recession worsened by the global credit
(Reporting by Richard Leong; Editing by Dan Grebler)