Tue, 05 Oct 1999, 4:46am EDT
Fed Likely to Continue Fast-Growth Experiment,
Leave Interest Rates Steady
By John Cranford
Washington, Oct. 5 (Bloomberg) -- Federal Reserve policy-
makers probably will leave interest rates unchanged today as tame
prices give them room to let the U.S. economy grow at a pace once
regarded as inflationary.
Unemployment is holding at a three-decade low of 4.2
percent, and analysts are forecasting the economy will expand
this year at a pace close to the 3.9 percent growth posted in
1998 and 1997 and faster than 1996's 3.4 percent expansion.
Factory orders are accelerating as are consumer incomes and
spending.
Traditional economic models suggest that combination should
send inflation higher. However, the latest inflation reports were
encouraging. Excluding the cost of oil and food, core consumer
prices were just 1.9 percent higher in August than a year ago --
the smallest year-over-year increase in 33 years.
''I can't think of anything that would make them move,''
said David Jones, chief economist at Aubrey G. Lanston & Co. in
New York, who nevertheless forecasts another rate increase soon.
Just two of 37 economists surveyed by Bloomberg News expect
the Fed's policy-setting Open Market Committee to raise interest
rates when it meets today. The FOMC session is expected to start
at 9 a.m. EDT and an announcement is likely at about 2:15 p.m.
The FOMC raised the overnight bank rate to 5.25 percent in
two quarter-point steps since the end of June. Jones has some
company in counting on the possibility of another rate increase
before the end of the year -- perhaps at the Nov. 16 FOMC
meeting.
Chance for November
Eight of those surveyed said there's a chance of a third
rate increase later this year -- perhaps at the next meeting,
Nov. 16. And as a prelude to that, 11 predicted the Fed's policy-
setting Open Market Committee would announce tomorrow that it is
leaning toward higher rates. That would be a reversal from the
neutral stance toward rates the FOMC has had since June.
One reason is the economy's persistent strength. Consumer
spending grew at a 4.8 percent annual pace in the second quarter,
as weak inventory-building and surging imports held overall
growth to a 1.6 percent rate. That was the seventh straight
quarter with consumer spending at a 4 percent or better pace --
the longest such streak in 45 years.
And the National Association of Purchasing Management said
its factory index rose last month to its highest level since
November 1994 as orders and production soared.
For now, though, tame prices mean a wait-and-see policy
might be the best approach, some Fed officials suggest. ''When
there's a high degree of uncertainty about (economic) forecasts,
it could be best for policy to be more cautious -- in the
extreme, to wait until inflation actually starts to rise'' before
raising rates, said Robert Parry, president of the Federal
Reserve Bank of San Francisco, in a speech last week.
A Record Expansion
If the eight-year-old expansion lives up to expectations
this year, not only will it set a longevity record, it will post
the four best growth years since 1984-87. And that will have
occurred during a period when the Fed was less inclined to act
than at any time since Alan Greenspan took the Fed's helm in
August 1987.
During Greenspan's 12 years as chairman, the central bank
has altered the overnight bank lending rate at least 60 times,
waiting on average about three months between actions, according
to Bloomberg analytics. Since the end of 1995 -- just as the
latest growth spurt began, the Fed has changed the overnight bank
rate just seven times -- three increases and four cuts -- and
waited on average more than six months between them.
Rates are lower now than they've been on average since
Greenspan's tenure. The overnight bank rate is currently 5.25
percent, about 45 basis points below the average for the last 12
years.
Worker productivity, which has averaged 2 percent annually
the past four years -- twice as strong as in the 1980s -- is the
reason Fed officials repeatedly cite for the economy's recent
behavior.
With ''the increase in productivity over the last four
quarters, it would appear you can grow the economy at a 4 percent
rate'' and ''have that growth sustainable,'' William McDonough,
president of the New York Federal Reserve Bank said Friday.
There are ''lots of opportunities for improving productivity
growth further,'' William Poole, president of the St. Louis Fed,
said the same day.
Productivity Questions
Still, productivity as measured by how much a worker can
produce in a hour grew at just a 0.6 percent annual rate in the
second quarter, giving pause to those who are counting on further
gains to keep inflation in check. Greenspan himself sounded a
cautionary note last week. ''There is no question that
productivity will continue to advance,'' he said. ''What we do
not know is how fast it's going to occur, and that's the critical
unknown.''
For now, he and his central bank colleagues are content to
count on it. So are investors. Market interest rates underscore
expectations for no rate change tomorrow. In the past month,
yields on three-month and six-month Treasury bills -- those that
would be most sensitive to Fed rate actions -- have fallen by 5
and 15 basis points, respectively. The implied yield on the
October federal funds futures contract, which is directly tied to
tomorrow's meeting, is 5.30 percent today -- just 5 basis points
above the current target.
The FOMC described its two recent rate increases more as a
partial effort to undo three rate cuts it made last year in the
wake of a financial market crisis caused by Russia's devaluing
its ruble and defaulting on its debt than an attempt to brake
U.S. growth.
''The degree of monetary ease required to address the global
financial market turmoil of last fall is no longer consistent
with sustained, non-inflationary, economic expansion,'' the FOMC
said in announcing its rate increase Aug. 24. |
