WASHINGTON -(Dow Jones)- An expected rebound in the U.S. economy this year could be choked off by rising interest rates and inflation, sending the nation into a double-dip recession in mid to late 2010, U.S. Chamber of Commerce Chief Economist Martin Regalia warned Thursday.
"I don't see a double dip occurring within the next year," Regalia said at a press briefing. Instead, he predicts that thanks to extensive fiscal and monetary stimulus, a U.S. economic recovery is "literally just around the corner."
Growth won't be strong, though, and Regalia figures there is a one in five chance that a recovery could be snuffed out by mid-2010 if the Federal Reserve doesn't begin retracting the flood of cash it has injected into the economy.
"We have increased the monetary reserves and the money base dramatically," Regalia noted. While he said fiscal and economic stimulus were needed, "in the near term we've got to unwind what we did" to pump up the economy.
If the Fed moves too slowly and excess cash begins circulating freely, Regalia said it could unleash inflation, weaken the U.S. dollar and boost long-term interest rates, crushing any recovery. Stagflation, where growth is stagnant while inflation rages, also can't be ruled out, he added.
The Fed's announcement Wednesday that it would leave short-term interest rates unchanged did not mention when or how the central bank would start reversing monetary stimulus. Regalia said the silence didn't go over well with markets looking for the Fed to assert its traditional inflation-fighting role.
Silence from the Obama administration about whether it will replace or retain Ben Bernanke when his term as Fed chairman ends next year also is keeping markets on edge, in Regalia's view.
"This administration has been very, very quiet about the reappointment of the Fed chairman," said Regalia. He said if Obama replaces Bernanke with someone such as National Economic Council head Larry Summers, market participants would view that as a clear sign "the Fed spigot is going to be open a while longer."
No matter who heads the Fed, Regalia expects "there's going to be tremendous pressure on the Fed to let the party go too long," and defer raising interest rates, because the Obama administration is counting on economic growth to offset a mounting federal budget deficit.
Regalia doesn't see the Fed raising short-term rates anytime this year, in part because a recovery is apt to be modest, with low single-digit growth in consumer spending and gross domestic product and with unemployment rates in excess of 9%.
"It's not going to be an American economy that's hitting on all cylinders," he cautioned.
On the plus side, Regalia said the free fall in U.S. home prices has stopped and banks have been able to raise capital privately. While he looks for banks to remain cautious about new lending as many commercial real estate loans come due in 2010, he doesn't foresee a crisis in the commercial real estate sector.
Inflation is the wild card: Regalia is forecasting that inflation will hold in a 2% to 3% range through mid-2010 while long-term interest rates move up or down about 50 basis points, or one-half of one percentage point. But if the Fed waits too long, he estimates that inflation could be as high as 4% by mid-2010, causing foreign investors to demand sharply higher interest rates on U.S. Treasury debt.
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