UPDATE 3-Fed's Moskow looks beyond Katrina, eyes inflation Wed Sep 7, 2005 03:59 PM ET (Recasts; adds analyst comment) By Ros Krasny
CHICAGO, Sept 7 (Reuters) - The Federal Reserve needs an "appropriate" monetary policy to keep inflation contained at a time the economy has less slack than a year ago, Chicago Fed President Michael Moskow said on Wednesday, hinting at more rate increases ahead.
"I'm concerned about core inflation running at the upper end of the range that I feel is consistent with price stability," Moskow said in a speech to the Futures Industry Association, echoing hawkish comments he made Aug. 24.
Inflation risks are higher now than a year ago because the U.S. economy is running nearer to full potential, making unfavorable cost developments more likely to feed through to core inflation, he said.
If expectations of higher inflation become ingrained, "the Fed would need to respond accordingly in order to restore price stability," said Moskow, a voting member of the Federal Open Market Committee this year.
Still, the Fed will face "a number of judgment calls" in assessing the impact of Hurricane Katrina on the U.S. economy, Moskow said.
After Moskow's comments the chances of a one-quarter percentage point rate hike at the Federal Open Market Committee meeting on Sept. 20 jumped to 80 percent from 66 percent (FFV5: Quote, Profile, Research) earlier in the day in short-term rate futures.
Moskow refused to comment on how the FOMC would respond to Katrina, saying its decision-making process in September would follow the same guidelines as usual. "We continue to look at all the data," he said.
Moskow said higher core inflation, higher energy prices and the potential for a drop in housing prices all pose risks to the U.S. economy.
High energy prices pose both a risk to growth and a threat of higher inflation, he said.
"Moskow nailed his colors pretty firmly to the tightening mast today, arguing ... that the rise in energy prices post-Katrina have, together with the ongoing rise in labor costs, raised the risk of pass-through to non-energy prices," said Ian Shepherdson, chief U.S. economist at High Frequency Economics.
Moskow was the first central banker to address Katrina's impact at length since the storm hit on Aug. 29.
"At this time it's very difficult to say how the national economy will be affected" by Katrina, he said.
The hurricane -- which flattened much of the U.S. Gulf Coast and flooded New Orleans -- brought a scale of destruction clearly larger than other storms of recent memory because of the damage to energy and transportation infrastructure concentrated in the area, Moskow said.
The Fed's 7th district includes many of the biggest U.S. grain exporting states, which move millions of tons of corn and soybeans down the Mississippi River to huge export facilities at the Gulf of Mexico.
"Participants in the markets are working actively to figure out alternative distribution routes and alternative transportation systems to move their products," Moskow said.
Moskow noted that some forecasters have trimmed growth projections for real gross domestic product in the second half of 2005 by 0.3 to 0.5 percentage point, without endorsing such an outlook.
Addressing concerns that U.S. productivity growth may be slowing, putting upward pressure on unit labor costs, Moskow said trend should remain solid.
"I still believe trend productivity growth is in the vicinity of 2.5 percent," he told reporters.
Earlier on Wednesday, the U.S. government cut its estimate of second-quarter productivity growth to a 1.8 percent annualized rate from 2.2 percent previously.
Moskow also said any softening in the U.S. housing market or in home prices would hit the economy slowly, giving policy-makers "time to react and take action." (Additional reporting by Oliver Ludwig in New York)