WASHINGTON – Economic uncertainties heightened by the possibility of war with Iraq and a rare display of dissent within the Federal Reserve is raising expectations that the central bank might cut interest rates before the end of the year, economists say.
Although the Federal Open Market Committee voted 10-2 on Tuesday to hold interest rates steady, policy-makers cited "geopolitical risks" — something most economists viewed as a reference to Iraq — as a potential danger to the wobbly economy.
"The uncertainty over the timing and the consequences of military action is creating problems in the equity markets and boardrooms," said economist Joel Naroff, president of Naroff Economic Advisors. "Like the rest of us, business leaders cannot figure out what will happen if war breaks out, and making business plans in such an unclear environment is quite difficult."
Two of the 12 FOMC members, Edward Gramlich and Robert McTeer, wanted an immediate rate cut and voted against the central bank's decision to leave rates unchanged, representing the first double dissent since May 1998 and revealing a crack in the unified front the Fed often presents to the public.
"Gramlich is a pretty mainstream guy. This suggests to me that we will see a rate cut in November," said David Wyss, chief economist at Standard & Poor's.
Other economists also believe momentum for a rate reduction will probably grow between now and the Fed's next meeting on Nov. 6. But a rate cut is not a foregone conclusion by any means, they said.
With the federal funds rate — the interest that banks charge each other on overnight loans — already at a 41-year low of 1.75 percent, the Fed has to be extra careful in using its limited rate-cut ammunition to help the economy fully recover from last year's recession, some analysts said.
"Obviously the odds of a rate cut now are very high, but there has to be concerns among Fed policy-makers that they might get boxed in and not be able to aggressively respond to debilitating events," said Mark Zandi, chief economist with Economy.com.
The last time the Fed cut rates was in December of last year, which pushed the funds rate down to 1.75 percent.
While many analysts consider a "double dip" recession scenario remote, it can't be ruled out, they said.
A dramatic and prolonged rise in energy prices stoked by Middle East tensions or a big cutback in spending by consumers — the driving force behind the economy — would probably send the economy into a nosedive, economists said.
After being knocked down by last year's recession, the economy is back on its feet but isn't bursting with vitality.
Businesses have remained reluctant to make big commitments in hiring and capital spending, two factors restraining the recovery. Manufacturing _hardest hit by the recession — lost considerable momentum in August.
Layoffs have been rising recently, and economists are predicting that the nation's jobless rate — now at 5.7 percent — probably will increase slightly in the months ahead.
Consumers, whose spending accounts for two-thirds of all economic activity in the United States, have been the primary engine keeping the economy going, but the Conference Board reported Tuesday that consumer confidence fell in September for the fourth consecutive month, dropping to the lowest level since November of last year.
Over time, the Fed said low interest rates and gains in productivity should be "sufficient to foster an improving business climate."
But the Fed said "considerable uncertainty persists about the extent and timing of the expected pickup in production and employment owing in part to the emergence of heightened geopolitical risks."
Some viewed Tuesday's dual dissents as an indication of the vigorous debate taking place over the direction of the economy during these turbulent times and predicted that more dissents would be seen in the future. Most economists viewed that as a healthy development, rather than a sign that Greenspan is losing influence over his Fed colleagues.
"I think there is a sense now that it is OK to disagree in public with the chairman and this is probably a reflection of a Greenspan-engineered increase in more openness, more transparency," said Sung Won Sohn, chief economist at Wells Fargo. "If that is not the case, then the iron grip Greenspan has had on the committee may be loosening."