Cyprus bailout underscores need for Fed "balancing act" - Knight

NEW YORK (Reuters) - Officials of the U.S. Federal Reserve are unlikely to alter current stimulus measures when they release new economic projections on Wednesday, even as the situation in Cyprus continues to weigh on global markets, Peter Kenny, managing director of Knight Capital, said on Tuesday.

The Fed's meeting, which began Tuesday, comes as the Cypriot parliament rejected a proposed 10-billion-euro (8.53 billion pounds) rescue package. Thirty-six lawmakers in the 56-seat body voted against the measures; 19 parliamentary members abstained from the vote. The plan, the first among euro zone bailouts to include a tax on bank deposits, aims to avoid a default that would shake the euro zone.

Kenny expects the Fed to continue its $85 billion in monthly mortgage and Treasury buys and to keep its overnight benchmark interest rate near zero, in line with an earlier poll conducted by Reuters before events in Cyprus unfolded.

"This is a global conversation that has heightened concern over monetary and national control," Kenny said during an interview on Reuters Global Markets Forum. "I suspect we hear some verbiage that addresses the need to manage risk to the global monetary system while at the same time underscoring the sanctity of deposits and savings. A balancing act, if you will."

Kenny, who joined Knight in 2006, said that while the events in Cyprus were relatively minor in scope, they held significant ramifications for other central banks looking for solutions to ongoing banking instability.

"If (Cyprus rejects the bailout), the EU will simply soften demands and make it more palatable - scaling haircut, reducing haircuts, making them conditional, etc.," he said ahead of the vote. "If we have learned anything from the ECB, it is adaptive."

Leaders throughout Europe - including Portugal's central bank governor and European Central Bank governing council member, Carlos Costa - have dismissed the possibility of using a similar plan in debt-plagued neighbours.

Kenny, forecast that Fed policy would change as certain economic guideposts, such as a U.S. unemployment rate of 6.5 percent and growth of 2.75 percent, are reached.

"I suspect if we see a broad and expanding financial sector and continued improvement otherwise, we will see shifts sooner. The markets can game a hard number. The Fed will not let that happen."

The Federal Reserve has said it is similarly targeting unemployment of 6.5 percent and core inflation below 2.5 percent before it begins to alter monetary stimulus measures.

Other economists and market participants shared Kenny's view points.

Mike Englund, principle director and chief economist at Action Economics in Boulder, Colorado, said matters in Cyprus would likely do little to move the Fed's hand.

"For quantitative easing, I think there's little room for adjustment at this point, and Cyprus will probably prevent the Fed from having any bearish tone in the statement associated with timing or tapering issues with QE," he said. "The statement wording will probably have a more optimistic tone for growth, but they will need to reconcile this with a downward revision in GDP growth estimates in the press conference."

New economic projections are expected from the Federal Reserve at 2:00 p.m. EDT on Wednesday (1800 GMT), with a news conference to follow soon after.

(Reporting by Eric Platt; Editing by Bernadette Baum)