Fed rate action commentary from Swiss Re US chief economist

08 August 2006, New York

After today's pause by the Federal Reserve, Swiss Re's US chief economist, Kurt Karl, commented, "The Fed would like to review the data for a while to decide if there is a need for further increases in interest rates. The economy is growing at close to its average pace of 3%, so inflation pressures should ease. However, the Fed needs at least one more interest rate hike as an insurance policy against a rising inflation. This is the appropriate policy given growth and inflation prospects.

'Growth is slowing in the United States, particularly the housing sector, and should be about 3% through end of 2007. Inflation, however, continues to increase. Our WTI oil price assumption is now USD 70 to USD 75 bbl at end of 2006 and about USD 73 to USD 78 bbl by end-2007. Aside from oil prices, the increase in inflation is due to the weak dollar, rising housing rents, increased wage gains, tightening capacity utilization, and improved pricing power on the part of small businesses. Some of these factors are likely to fade as economic activity slows, but other factors may not. Hence, the outlook for inflation remains uncertain. As a consequence, the Fed will need to raise the fed funds rate further before year-end. With growth fairly robust, the yield on the 10-year Treasury note should rise along with the fed funds rate," Karl said.
'Though growth is slowing in the United States, it is accelerating in most of the rest of the world, putting pressure on commodity and other prices and causing many central banks to raise rates. Rates are rising in the United States, Euroland, Canada and Japan, while China tightens with a variety of measures, including an appreciating currency. Even the Bank of England is no longer on the sidelines. As a consequence, long-term interest rates can be expected to rise modestly over the next six to 12 months, as global liquidity is reduced,' added Karl.

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