http://www.bloomberg.com/news/economy/fedwatch.htmlFed's Gramlich Says U.S. Must Curb Fiscal Budget, Current Account Deficits Feb. 25 (Bloomberg) -- The U.S. must curb its budget and current account deficits to avoid ``dislocating changes'' in the economy, Federal Reserve Governor Edward Gramlich said.
The budget deficit is more dangerous because it subtracts directly from growth and can only be controled through spending cuts or higher taxes, Gramlich said....There is no economic effect that is necessarily going to come along to save the day.'' <snip>
The current account deficit may be self-correcting to a point, although there is a risk it might grow so large that investors would flee U.S. assets and lead to a market crash, Gramlich said. And while the two deficits are not necessarily related, government action can address both. <snip>
A rising deficit will eventually force up interest rates, and that may destabilize an economy that has just begun to generate a cycle of capital spending and job creation, Gramlich said.
So far, low inflation expectations have helped keep long- term interest rates low. The U.S. 10-year note has traded in a range of 4.4 percent to 3.9 percent for the last six months, helping the expansion.
Asked whether the budget deficit will prompt the Fed to raise rates, Gramlich said ``we worry about a lot of things. Fiscal policy always influences monetary policy. It's one of the factors we take into consideration.'' <snip>
At some point there is a limit to how many dollar assets foreign investors want to hold, leading to ``a relative price adjustment -- such as rising U.S. interest rates to make dollar bonds more attractive, or a declining dollar that makes U.S. goods cheaper for foreign buyers -- to help stabilize the trade imbalance,'' Gramlich said. <snip>
``The main risk here,'' Gramlich said, ``is that the natural adjustments may not occur gradually, but so rapidly as to threaten various types of dislocations.'' <snip>
Craig Torres in Washington
at ctorres3@bloomberg.net