Fed policy to turn mildly restrictive in 2019, Evans says

By Ann Saphir

FORT WAYNE, Ind. (Reuters) - The Federal Reserve's interest-rate hikes will begin to drag on U.S. economic growth and employment by next year, a U.S. central banker said Friday, as the level of borrowing costs appropriately turns "mildly restrictive" after more than a decade of acting as a stimulant.

The remarks, from Chicago Federal Reserve Bank President Charles Evans, mark a turning point in the thinking of a policymaker who as recently as this past spring was trying to convince his colleagues to stop raising rates to give the economy and inflation a bit more room to run.

But on Friday, Evans said he believes that rates should continue to rise, including one more two more times this year, and that by next year monetary policy will begin to "hold back the economy just a little bit."

"The U.S. economy is firing on all cylinders, with strong growth, low unemployment, and inflation approaching our 2 percent symmetric target on a sustained basis," Evans told the Northeast Indiana Regional Economic Forum.

The economy will likely grow at 3 percent this year before slowing next year, he said, pushing unemployment down from 3.9 percent now to 3.5 percent by 2020, well below the 4.5 percent that Evans believes is sustainable over the long run. Meanwhile inflation, he said, will likely rise a bit above 2 percent, though not far enough to cause concern.

The Fed has been raising rates gradually as the economy has strengthened, and its most recent projections suggest it will continue to do so into next year before slowing in 2020.

The projections show most policymakers expect interest rates to rise to 3.1 percent by the end of next year and 3.4 percent by the end of 2020, above the Fed estimate for a neutral rate setting of 2.9 percent, Evans noted. Neutral is the estimated level of borrowing costs that in a healthy economy neither boosts nor brakes growth.

"This means that the 3 to 3.5 percent level of the funds rate projected for 2019 and 2020 is mildly restrictive," Evans said. "Given an unemployment rate forecast below the natural rate, such a policy stance would be quite normal and consistent with some moderation in growth and a gradual return of employment to its longer-run sustainable level."

Fed Governor Lael Brainard argued earlier this week that even with further rate hikes it will probably be a couple years before borrowing costs start impeding growth.

Evans told reporters after the speech that while it's "natural" to think that with the economy growing strongly, the Fed has more headroom to raise rates before they become restrictive, but he said he has no strong opinion on the matter.

What is important, he said, is that rate rises stay gradual so that the Fed can assess uncertainties like the effect of trade tariffs on business spending or the impact of fiscal policy on inflation.

(Reporting by Ann Saphirrates than; Editing by Chizu Nomiyama)