WASHINGTON (MNI) – The following is the second part of the text of
the Participants’ Views On Current Conditions and the Economic Outlook
portion of the Minutes of the June Federal Open Market Committee
meeting, released Wednesday, July 11:

Participants expected that fiscal policy would continue to be a
drag on economic growth over coming quarters. They generally also saw
the federal budget situation as a downside risk to the economic outlook:
If an agreement was not reached to address the expiring tax cuts and
scheduled spending reductions in current law, a sharp tightening of
fiscal policy would occur at the start of 2013. A few participants
reported hearing that defense contractors were making contingency plans
to reduce their workforces if potential spending cuts go into effect;
one reported that some firms already had begun to make such reductions.
In contrast, it was noted that an agreement on a credible longer-term
plan that put the federal budget on a sustainable path over the medium
run in a way that removes the near-term fiscal risks to the recovery
would help alleviate uncertainty, likely would have positive effects on
consumer and business sentiment, and so could spur an increase in
business investment and hiring.

Exports helped support U.S. economic growth during the early months
of this year. However, recent reports from some business contacts
pointed to slowing exports to Europe and China, and several participants
noted the risk that economic weakness in Europe or a more significant
slowing in the pace of expansion in emerging markets in Asia could damp
exports further. A couple of participants expressed the view that the
direct effects on the U.S. economy stemming from slower economic growth
abroad-effects that would be manifested through declining U.S.
exports-would be noticeable but not large. However, another participant
noted that recent appreciation of the dollar in foreign exchange markets
would also contribute to reduced exports.

The pace of improvement in labor market conditions diminished in
recent months; in particular, growth in employment slowed. Job growth
late last year and early this year was boosted by unusually mild winter
weather; some slowing had been expected as weather became more normal
during the spring, but the reported slowing was more substantial than
many participants had anticipated. One participant noted that the
apparent tension between strong employment growth and moderate output
growth seen earlier in the year had been resolved more recently by
slower job growth rather than faster output growth. Even so, average
monthly growth in payrolls from January through May was in line with
last year’s pace.

in labor markets. Some participants judged that the unemployment
rate was being substantially boosted by structural factors such as
mismatches between the skills of unemployed workers and those required
for available jobs, a view that would imply less slack in labor markets
than suggested by a simple comparison of the current unemployment rate
to participants’ estimates of its longer-run normal level. A couple of
participants said they would have expected inflation to slow noticeably
if there were substantial and persistent slack. One implication of the
view that there is relatively little slack is that providing more
monetary stimulus would be likely to raise inflation above the
Committee’s objective. Some other participants acknowledged that
structural factors were contributing to unemployment, but said that, in
their view, slack remained high and weak aggregate demand was the major
reason that the unemployment rate was still elevated. These participants
cited a range of evidence to support their judgment: the still-high
fraction of workers who report working part-time jobs because they
cannot find full-time work;

research showing that job-finding rates among the long-term
unemployed were somewhat higher in the recent past than a year earlier;
anecdotal evidence to the effect that employers do not see long spells
of unemployment as making applicants less attractive for most jobs; and
reports that employers were receiving large numbers of applications for
each opening and were being especially discriminating when filling
vacant positions. Another participant pointed to research showing that,
in many countries, inflation is less responsive to downward pressure
from labor market slack when inflation is already low than when
inflation is elevated, and to evidence that firms in the United States
have been reluctant to cut nominal wages in recent years, as indications
that sizable slack might not cause inflation to decline from its already
low level. These arguments imply that slack in labor markets remains
considerable and therefore that a reduction in the unemployment rate
toward its longer-run normal level would not have much effect on

Measures of consumer price inflation declined over the intermeeting
period, mainly reflecting reductions in oil and gasoline prices since
earlier in the year. Several participants noted that they saw little if
any evidence of price pressures, commenting that increases in labor
costs continued to be subdued and that non-energy commodity prices had
declined of late. With longerrun inflation expectations well anchored
and the unemployment rate elevated, almost all participants anticipated
that inflation in coming quarters and over the medium run would be at or
below the 2 percent rate that the Committee judges to be most consistent
with its mandate; several had revised down their inflation forecasts.
Most participants viewed the risks to their inflation outlook as being
roughly balanced. Some participants, however, saw persistent slack in
resource utilization as weighting the risks to the outlook for inflation
to the downside. In contrast, a few saw inflation risks as tilted to the
upside; they generally were skeptical of models that rely on economic
slack to forecast inflation and were concerned that maintaining the
current highly accommodative stance of monetary policy over the medium
run risked eroding the stability of inflation expectations, with a
couple noting that large long-run fiscal imbalances also posed a risk.

Many FOMC participants judged that overall financial conditions had
become somewhat less supportive of growth in demand for goods and
services. Investors’ concerns about the sovereign debt and banking
situation in the euro area reportedly intensified during the
intermeeting period, leading to higher risk spreads and lower prices for
riskier assets including equities and to broad-based appreciation of the
U.S. dollar on foreign exchange markets. In contrast, a few participants
observed that the marked drop in yields on longer-term U.S. Treasury
securities could provide some impetus to growth. Focusing more narrowly
on the banking sector in the United States, it was noted that measures
of credit quality for bank loans generally had continued to improve,
that bank capital levels were quite high, and that banks had ample
liquidity. Consumer and business loans were increasing, although credit
standards remained tight and commercial and residential real estate
lending were relatively weak. A few participants indicated that they
were seeing signs that very low interest rates might be inducing some
investors to take on imprudent risks in the search for higher nominal
returns. Participants discussed the risk that strains in global
financial markets and pressures on European financial institutions could
worsen and spill over to parts of the domestic financial sector, and
some noted the importance of undertaking adequate preparations to
address such spillovers if they were to occur; it also was recognized
that investor sentiment could improve and strains in global markets
might ease. Several participants commented that it would be desirable to
explore the possibility of developing new tools to promote
moreaccommodative financial conditions and thereby support a stronger
economic recovery.

** MNI Washington Bureau: 202-371-2121 **