Fed's Dudley Says Soft Economy Warrants Low Rates

NEW YORK (Reuters) - A tepid economic recovery should allow the U.S. Federal Reserve to keep interest rates at rock-bottom lows for a prolonged period, New York Federal Reserve President William Dudley said on Monday.

Because the U.S. economy faces many headwinds, including an anemic labor market and a fragile banking system, Dudley said, inflation will not become a problem in the foreseeable future.

"The recovery will turn out to be moderate by historical standards," Dudley said in a speech at Fordham Law School. "The banking system has still not fully recovered."

Given the vulnerability of financial institutions, falling commercial real estate values will continue to pressure profits, putting a damper on lending, said Dudley, whose role at the New York Fed includes direct supervision of banks.

Dudley's outlook for the economy was cautiously sanguine. He touted a rebound in financial markets that has seen major U.S. stock indexes surge more than 50 percent from their March lows, saying a virtuous cycle was replacing the vicious circles that brought the global financial system to the brink of collapse last year.

Dudley, who as head of the New York Fed is a permanent voting member of the U.S. central bank's policy-setting committee, said he believes that forecasts for a 3 percent rate of annualized economic growth in the second half of this year are "reasonable." He said a so-called "double-dip" recession, where growth perks up only to turn negative again, is unlikely, particularly given the strength of many emerging economies.

Dallas Fed President Richard Fisher, speaking on PBS television, agreed that a double-dip recession is unlikely. Various economists have raised fears that the United States could sink into a double-dip recession.

"I don't consider that a likely scenario right now," Fisher said in an interview on PBS's "The Nightly Business Report." "I do think we're going to have to be tolerant with slower growth than we're used to."