Rates moving too high could have ‘nonlinear’ impact on US economy

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By Howard Schneider

CHARLOTTESVILLE, Va. (Reuters) -Interest rates that move too high could have a “nonlinear” impact on the economy as businesses become more pessimistic, Chicago Fed President Charles Evans said on Wednesday, mapping out a case for caution in the central bank’s battle against high inflation.

The Fed currently projects its target federal funds rate will rise to 4.6% next year, and Evans said that “if we have to increase the path of the funds rate much more … it really does begin to weigh on the economy.”

“I worry that it’s sort of a nonlinear kind of impact … with businesses becoming very pessimistic and changing their strategies in a sort of notable way,” once rates reach a certain point, Evans said in remarks to reporters after an event at the University of Virginia.

Evans’ comments reflect an emerging debate at the Fed over how much farther and faster to raise interest rates with inflation still running at triple the central bank’s 2% target and little month to month evidence of progress.

The Fed is expected to approve its fourth consecutive 3/4-point increase at an upcoming Nov. 1-2 meeting, but then will face a critical decision over whether to slow the pace and give the economy time to adjust.

Evans said that even after the most recent inflation data showed little progress through September, he still felt the Fed’s current projection of a target policy rate that reaches a range between 4.5 an 4.75% next year would be adequate.

While the risks of high inflation remain “to the upside,” Evans said raising rates much higher than currently planned could pose risks of its own.

He said the Fed’s current projected path of policy should let inflation slow, while the unemployment rate rises only to around 4.5% next year – what he considered a “good” outcome compared to past Fed inflation battles.

But he said it already was a “closer call than normal” whether the United States can avoid a recession.

“Unfortunately, at the moment, inflation is just much too high,” Evans said. “We need to continue on the path we’ve been indicating … I’m hopeful that will be enough.”

(Reporting by Howard Schneider; Editing by Sandra Maler)

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