Fed rate action commentary from Swiss Re US chief economist

10 May 2006, New York

After today's 25 basis point Federal Reserve increase in the target fed funds rate to 5.0 percent, Swiss Re's US chief economist, Kurt Karl, commented, "The economy continues to perform well and inflation remains a concern, so it is not surprising that the Fed raised rates today. They are likely to pause at 5.0 percent for a while, however. The impact of interest rate increases on the economy occurs with a lag, so the Fed needs to pause to gauge the strength of the economy and the risk of higher inflation. If inflation ticks up or growth is too robust, the Fed will need to tighten further. Currently, the risk of a rate cut is low – there are few signs of economic weakness."

"Our latest US outlook is for growth of 3.0 percent for the final three quarters of 2006 and inflation to moderate as oil prices ease back to $67 bbl by year-end. Core inflation is projected to remain close to 2.0 percent this year and next. Hence, the Fed can stop raising rates at 5.0 percent and assess the economy. At 5.0 percent, the federal funds rate is about 300 basis points above core CPI inflation, a spread consistent with past Fed tightenings. Our outlook assumes that high oil prices and interest rates slow growth in the second half of 2006. Moderating oil prices and strong productivity gains are projected to keep inflation in check. However, there are no significant signs of a slowdown in growth nor of a deceleration in inflation, so the Fed may need to raise rates to 5.5% or higher," Karl said.

 

"Globally, growth is solid or improving in all the major regions. Hence, the large central banks have been tightening monetary policy, with the Fed and the European Central Bank (ECB) raising rates. Soon, the Bank of Japan will begin to raise rates and China is likely to tighten via an appreciation of the renminbi. The ECB will raise its policy rate to 3.0 percent by end-2006, perhaps higher. The BoJ is forecast to raise its policy rate to 0.25 percent by year-end and the renminbi will rise to 7.85 per dollar. These tightenings will cause long-term interest rates to rise further, pushing, for example, the yield on the US Treasury 10-year to 5.2% or higher by end-2006," added Karl. 

 

About Swiss Re

Swiss Re is one of the world's leading reinsurers and the world's largest life and health reinsurer. The company operates through more than 70 offices in over 30 countries. Swiss Re has been in the reinsurance business since its foundation in Zurich, Switzerland, in 1863. Swiss Re offers a wide variety of products to manage capital and risk. Traditional reinsurance products, including a broad range of property and casualty as well as life and health covers and related services, are complemented by insurance-based corporate finance solutions and supplementary services for comprehensive risk management. Swiss Re currently has the following ratings: (i) from Standard, Poor's: long-term counterparty credit, financial strength and senior unsecured debt ratings of "AA (CreditWatch negative)", and a short-term counterparty credit rating of "A-1+", (ii) from Moody's: insurance financial strength and senior debt ratings of "Aa2" (on review for possible downgrade), and a short-term rating of "P-1" and (iii) from A.M. Best: a financial strength rating of A+ (superior) (under review with negative implications).