| Fed believes inflation undr contrl, doesn't mean Fed finishd |
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Jon
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Joined: 13 Apr 2005
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| Fed believes inflation undr contrl, doesn't mean Fed finishd |
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Federal Reserve officials were at it hard Tuesday with five making statements about the economy, inflation, and anything else that would gather a crowd. The basic theme was that inflation was under control as measured by the PCE and core CPI. Indeed, some voiced the view that the economy was just about on a balanced growth path, i.e. that rates were at the point where the economy could advance with no inflation pressure or worry of deflation. Nirvana indeed.
That of course sounds good and the market took heart. Surely an economy that is balanced is one that will soon see the Fed depart for a long sabbatical after two years of rate hiking. A few other comments, however, show that below the shallow water the Fed still lurks, ready to continue the hikes. That is the beauty of its ‘wait and see’ approach right now, the so-called ‘data dependent’ Fed. We would like to see a Fed that was not data dependent, one that was just making things up as it goes along. Oh, sorry. We did see that Fed. That was the one back in 1999 and 2000 that snatched recession from the jaws of prosperity.
No, the Fed is not dead yet. Richmond Fed president Lacker (rhymes with slacker) was upbeat about the balanced growth prospects but was quick to point out that inflation, though contained, was at the high end. He wants to see it at the low end of the range. Well now, don’t we all. But is it worth hiking rates until we dive into recession just to get inflation at the lower side of the range? As we saw in 2000, it does more than that; the right combination can threaten deflation.
Dallas Fed president Fisher (a.k.a. did I say ninth inning Fisher) was more sanguine, noting that the ‘explosion’ in worldwide capacity meant fewer bottlenecks and thus fewer chances of imbalances between supply and demand. Kudos. Only if he had any credibility after his blunders back in early summer of 2005. Of course, Fisher also noted that even if housing slowed there was plenty to keep the economy rolling on, e.g. consumer and business spending. Whew. Glad he pointed that out.
Thus even the more dovish speakers had hawkish undertones, indicating the same old Fed that we know all too well. At this juncture of the rate hiking cycle the Fed always sees plenty of strength to keep the economy strong despite its rate hikes, and thus it keeps hiking for fear that if it stops, the self-styled ‘balance’ it believes it created will suddenly return to an imbalance or ‘excess’ as Greenspan liked to say. Thus they keep on hiking until something gets broken. Then its time to stop, and before too long it will be time to start lower rates because the Fed went too far and skewered a nice, healthy economy.
The Fed is right about one thing: there is certainly no worry of inflation if the economy is in recession (though we have managed to do that: see the 1970’s), and thus its propensity to keep hiking until it sees a slowdown. The problem with that is just what the Fed talks about with inflation: by the time you see it, it is too late. Of course, you have to be looking for ‘it’, whatever it may be. In 2000 there were plenty of signs that the ‘white hot’ economy was starting to roll over (e.g. grain prices were lower despite a drought, container usage was declining, shipping was falling, capital investment was falling as it was choked off by tight money), but the Fed looked at employment data, consumer spending, jobless claims, etc. and kept firing the torpedoes, launching a double shot 50 BP rate hike that May. The signs of slowing turned into glaring headlights of an oncoming train by Q4 as the economy dove off the cliff. Right now there are signs of slowing even as everyone becomes convinced the economy is heading to the moon. It might be able to do that if left alone. Problem is, shippers are experiencing slowing once more, manufacturing is cooling, housing is slowing, gasoline is heading toward $3/gallon, etc. even as the Fed keeps working against the economy. These small problems become major issues if the Fed keeps looking in the rearview mirror and does not see down the road to see what is going to happen.
Thus we would like to take the same warm feeling some in the market took from the Fed-speak, but based upon historical patterns, there is still too much economic strength for the Fed to stop at 5% and likely 5.25%. Thus any rally in anticipation of the Fed stopping rate hikes is likely to be disappointed as in early 2005, late summer and early fall of 2005, and in February this year. While that has caused upset in the market, it has not stalled the overall trend higher, however. The market continues to show continued resilience, pricing in a Fed that is just about done. For now we don’t view this as a bad thing; typically once the Fed announces it is done the market declines because the cessation was anticipated and the move higher came ahead of time. Thus the move higher now in anticipation. When expectations turn to fact then we have to watch out for the immediate aftermath as well as the actual economic damage any additional rate hikes cause during the ‘wind down’ phase of the rate hikes.
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Thu Apr 06, 2006 2:17 am |
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