Fed sees weaker recovery for economy through 2011

— -- The Federal Reserve said the economy will be weaker than it initially forecast through 2011, though the central bank still expects the recession to end this year.

Welcome signs that the economy's decline slowed in April, along with hopes for the government's stimulus spending, caused the Fed's staff to upwardly revise its growth estimate for the second half of this year. But the sharp first-quarter shrinkage at an annualized rate of 6.1%, and the continued decline in the current quarter, led the Fed to trim its full-year forecast.

The Fed now expects the economy to contract by 1.3% to 2% this year, worse than the 0.5% to 1.3% fall it projected in January, according to minutes of the April 28-29 meeting of the policymaking Federal Open Market Committee released Wednesday. By 2010, the Fed anticipates growth of up to 3% and as much as 4.8% in 2011. That's also lower than its January outlook.

"This recovery is stretching further and further out," said Doug Roberts, chief investment strategist of Channel Capital Research.

Since its last forecast, in January, the Fed has detected signs that the labor market is in worse shape than initially believed. The unemployment rate now is expected to hit 9.2% to 9.6% this year and remain above 9% all of next year.

That means the jobless rate will be higher than even the "adverse scenario" employed in the Fed's recent stress tests of the nation's major financial institutions, which could mean banks will need more capital than the government assumes. The Fed also warned that it will take "five or six years" before the economy achieves its potential long-term unemployment rate of about 5%.

Private economists are even gloomier, with many forecasting a double-digit jobless rate next year. Brian Bethune of IHS Global Insight says unemployment will peak at 10.2% next spring and remain near 9% at the end of 2011. Ian Shepherdson of High Frequency Economics told clients Wednesday that the Fed's new unemployment rate forecasts "are at the very edge of plausibility."