By Ros Krasny
FOND DU LAC, Wisc. (Reuters) - The recent spike in the jobless rate suggests the U.S. economy will probably fall into a recession, a top Federal Reserve policy-maker said on Friday.
"Unemployment rarely goes up this much without a recession following," Chicago Federal Reserve Bank President Charles Evans told reporters after a speech on the economy at Marian University in Fond du Lac, Wisconsin. "We're facing major economic challenges."
The U.S. jobless rate hit 6.1 percent in August and held at that rate in September, the highest since September 2003 and up from a cycle low of 4.4 percent last seen in March 2007.
At the least, Evans said the economy is likely to be "very sluggish" well into 2009, dogged by the weak housing market and stress in financial markets that has spilled into the broader economy and siphoned away consumer spending power.
"The housing market is a continuing strain, and we are experiencing disruptions in worldwide credit markets that are without precedent in the post-World War Two era," he said.
Evans noted consumers and businesses are facing reduced and more costly access to credit, hurting overall spending.
The Fed's many policy responses, including steep cuts to benchmark lending rates, would provide support over time.
Stabilization in construction activity and improvement in credit flows would be signs of progress in turning the economy around, Evans said.
On Friday, Commerce Department data showed U.S. housing starts for September at the lowest since January 1991, with building permits also down heavily, suggesting the housing slump continues.
But Evans said the shakeout is part of the process of getting housing prices down further and finally forcing supply and demand for houses into equilibrium.
Evans called for "innovative and vigorous fiscal and monetary policy responses to the crisis," but did not touch on the possible outcome of the Fed's October 28-29 policy meeting.
Financial markets currently lean toward a cut in U.S. interest rates of either one-quarter or one-half percentage point from the 1.5 percent level set in an emergency move this month.
The benchmark overnight federal funds rate is already "at an historically low level," Evans said.
Evans is not a voting member of the Federal Open Market Committee in 2008, but will vote in 2009.
He said that the Fed "continuously reevaluates the stance of monetary policy in light of current and forecasted conditions," and that inflation prospects have improved even as the growth outlook is more clouded.
"Although some risks to the inflation outlook remain, a forward-looking assessment would put less weight on inflation concerns than earlier this summer," Evans said.
The Fed and the Treasury now have "the right array of programs" in place to thaw frozen interbank lending markets and helping to get credit flowing more readily to consumers and businesses, Evans said.
The Treasury's program to buy stakes in banks gets to the heart of the issue of capital that is opaque and hard to value, he said.
Still, that recovery won't happen overnight, he said, and the "new normal" likely to emerge as credit markets stabilize "will likely operate through different channels and under different constraints."
Evans said the programs enacted in response to the liquidity lock, and the extent to which taxpayers' money has been put at risk, gave him "pause" but were necessary to get the markets and the economy moving.
Over the course of the credit crisis, which started in 2007 with a blowup in the market for subprime mortgages, the Fed has moved "further and further away" from typical central bank policy making, Evans said.
Acknowledging queasiness about the Fed's moves among everyone from audience members to his own wife, Evans said the programs were necessary to contain problems created by the financial disruptions.
"People will be put at less risk than if there's a more widespread downturn," he said.
(Editing by James Dalgleish)
