Economists expect real gross domestic product growth to be 1.1% for the rest of 2008 while interest rates will remain at 2%, according to a survey of economists released today by the Securities Industry and Financial Markets Association. State and local government spending will weaken into 2009, the survey found.

Eighteen economists submitted predictions for the major economic indicators and sensed that the economy would experience "subdued" growth in the third and fourth quarters of 2008 as home prices reach bottom. They offered an optimistic outlook for growth beginning in 2009, shrugging off inflation concerns and expressing confidence in the Federal Reserve's decision to keep interest rates low.

"If you look at GDP growth excluding the home building business, it's actually, in the last four quarters, quite good," said Jim Glassman, senior economist with JPMorgan Chase & Co.who spoke at a press conference on the survey's findings. Export businesses, agriculture, technology, and health care carried the economy as the housing market lagged, he said. But housing demand will rebound by 2009, the economists predicted. Glassman noted that outside the bubble neighborhoods in California, Nevada, and Florida, the market is not as weak.

However, state and local government spending will continue to feel the squeeze from increasing food and energy costs. The economists predicted municipal spending growth will slow to 1.7% in the remainder of 2008 and then to 1.5% in 2009. Spending grew by 2% in 2007, according to SIFMA.

Municipal financing faces tighter credit conditions, Glassman said, adding that the housing correction will put pressure on governments to cut or cap property taxes, which "will have a disproportionately negative effect on local community financing."

The Fed will keep interest rates at 2%, convinced that the housing market has room to fall and that writedowns will continue to plague banks, the economists agreed. The Fed will overlook inflation concerns because the increasing prices are not domestic, but rather influenced from international demand driving up prices.

"This is not your father's inflation," Glassman said speaking of the surge in prices during the 1970s.

Emerging markets are demanding more oil and the corn-based ethanol mandate is driving up food prices, he said. The higher prices have left consumers with less to spend on apparel and cars, which has pushed down prices in these sectors.

Core inflation is "holding pretty tame," Glassman said. "We implicitly don't believe that the surge in food and energy prices is going to spill over ... and that is what the Fed is thinking. There is no dilemma for the Fed."

The economists predicted Treasury yields to rebound by September for both the two-year note and the 10-year bond.

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