Looking ahead, it’s my belief that—despite the effects of the hurricanes—the most likely path of the economy for the next several quarters is ongoing respectable growth of GDP, employment, and income. That pattern suggests to me that we should continue to move toward a neutral setting for monetary policy. The Fed already has moved interest rates a long way toward a more normal level consistent with sustainable growth. By most conventional measures, however, policy is still accommodative.

Hurricanes are obviously the very embodiments of unexpected developments...   Economic activity and prices will be affected for some time and discerning underlying trends will be difficult.  It is not obvious that this form of uncertainty has implications for monetary policy, however.  Pausing or slowing down a rise in policy interest rates would not itself help to reduce uncertainty because the way in which policy might affect spending or inflation is not in question.  Rather this is a situation in which a central bank generally is well advised to make its best forecast, to evaluate the risks around that forecast as well as it can, and to act on that forecast and associated evaluation of risks.

At this point, it seems likely that the hurricanes had, at most, a small effect on the supply side of the economy. The losses of productive capital, while devastating in the regions directly affected, appear to be small relative to the overall size of the national capital stock.

The hurricanes have...adversely affected the outlook for inflation. The damage to production and refining facilities has significantly boosted the prices of natural gas and gasoline. Consumer energy prices are projected to rise substantially in the second half of this year, and some spillover into the prices of non-energy goods and services looks likely as well.

Even before the devastating hurricanes of August and September 2005, world oil markets had been subject to a degree of strain not experienced for a generation. Increased demand and lagging additions to productive capacity had eliminated a significant amount of the slack in world oil markets that had been essential in containing crude oil and product prices between 1985 and 2000. In such tight markets, the shutdown of oil platforms and refineries last month by Hurricanes Katrina and Rita was an accident waiting to happen.

As our September FOMC meeting followed Hurricane Katrina by approximately three weeks and was held concurrently with the formation of Hurricane Rita, I felt that there was insufficient information as well as great uncertainty about how these forces would play out in the near term. As a result, I voted to pause in the removal of policy accommodation until more was known.

In contemplating monetary policy from this point forward, the brow begins to furrow. Most forecasters expect growth to slow from its previous pace—not so much because of the frightful destruction Hurricanes Katrina and Rita inflicted on the Gulf Coast but due to additional volatility in prices for natural gas, gasoline, certain chemicals and building supplies.

Despite the uncertainties that exist, I believe that these unfortunate events [Hurricanes Katrina and Rita] do not pose a persistent threat to national economic activity.  My overall assessment is that the national economy, while not without challenges, is in reasonably good shape and that conditions should allow for solid growth in the future.  In context, I believe that the Federal Reserve should continue to focus on having a neutral monetary policy which reflects its commitment to price stability.

In the case of the hurricanes, the largest impact is likely to be of a regional nature: the need to rebuild businesses, homes, and infrastructures along the affected Gulf Coast regions.  If monetary policy was redirected to provide more accommodation to the rebuilding efforts, such policy could lead to excessive stimulus in the rest of the country.  The overall result would likely be an economic boom and rising inflation.

In the case of hurricanes, the negative effects are most likely to be felt over the next six months.  If monetary policy were to increase the level of accommodation, the benefits would not likely be felt until next year.  By that time, the rebuilding effort would be well underway, and there might be a danger that monetary policy stimulus could combine with the sizeable fiscal stimulus to overheat the economy and lead to higher inflation.

We heard that the pace of economic growth had begun to slow slightly prior to Katrina and that the disruptions from Katrina, and later from Rita, would initially slow growth a bit more. The U.S. economy grew at a 3.3 percent annual rate in the second quarter. Now, most forecasters anticipate growth closer to 3 percent in the fourth quarter. Many of them expect the bounce back from rebuilding the Gulf Coast to begin in early 2006, though the impact will be spread over several years.

Now, the inflation rate is near the upper end of the Fed’s tolerance zone, and it shows little inclination to go in the other direction. We now face higher energy prices and businesses’ desire to pass the increased costs on to their customers. Combine the energy spikes with spending increases by governments at every level in the aftermath of the two hurricanes...and you have new demand pressures added to the old ones.

It is also clear that monetary policy's capabilities are limited.  We may be able to limit the severity of the cycle, but we cannot eliminate it.  There are too many powerful forces at work in the economy for that.  And as the recent hurricanes remind us, an aggregate demand management tool is not very effective when the economy is hit with a shock from the supply side.

Before the hurricanes struck, the economy was clearly on a sustainable path of expansion.  While the recent disruptions and dislocations in the gulf may slow the rate at which the economy grows for a time, I believe the expansion is strong enough to withstand them.

In the shorter term, the devastation wrought by hurricane Katrina, and to a lesser extent by Rita, will have a palpable effect on the national economy. In particular, the virtual shutting-down of the Gulf Coast economy will leave its imprint on the national rates of job creation and output growth, especially in the third quarter, while recovery and rebuilding should ultimately increase growth rates and rates of job creation, perhaps by the fourth quarter and certainly in the first half of next year.