Should the FOMC Cut More Sharply This Time?
interactive.wsj.com
By Jennifer Ablan
AUGUST 20, 2001
Even so, "the financial markets, more than anything, have got to be concerning the Fed," says James Paulsen, chief investment officer of Wells Capital Management. "If the economy was about to recover in a big way, you'd see a big upward move in stock prices, a backup in bond yields, and a rally in commodities. We are seeing exactly the opposite."
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Richard Suttmeier, chief market strategist at Joseph Stevens & Co., contends, "The Fed has shown a lack of confidence, and if the Fed is not confident, how can investors be confident?" He suggests central bankers slash rates by 75 basis points and make a bold statement. "They should say that they will bring the funds rate in line with market rates and accentuate the positives … state that manufacturing is expected to pick up, that the consumer is still resilient and that second-quarter productivity rose at a 2.5% rate," he says. "They should say all these things because they are true, and end it with an exclamation point by going 75."
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Michael T. Lewis, president of Free Market Inc., adds that, "while various monetary aggregates continue to register very strong growth rates, the one exception is loan growth. Growth has gone from strong to stagnant."
Altogether, East says, "This is why the Fed needs to lean on the lever harder."
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Friedman Billings' East also points out that if history is any guide, the Fed may have a good bit of work yet to do. "How low does the fed funds rate need to go to truly stimulate the economy?" he says.
Using the core personal consumption expenditures deflator -- Greenspan's preferred inflation measure -- the "real" fed funds rate is 2.60% (the 3.75% nominal fed funds rate minus 1.15% core PCE). During the recession of early 1990s, the real fed funds rate reached a low of negative 0.55% and was positive 1% or lower for roughly two years, he notes. Thus, in comparison to the real fed funds rate in the early 1990s, today's 2.60% level looks high, East adds. Assuming a core PCE price measure of 1.15%, the nominal fed funds rate would have to decline to 2.15% to produce a real fed funds rate of 1.00% and to 1.15% to produce a real funds rate of nil.
East says, "If the growth rate of nominal GDP and/or inflation picks up, then the nominal fed funds rate will begin to look more stimulative. However, if inflation stays low, and we think it will, and nominal GDP growth remains relatively weak, a 3% or lower nominal fed funds rate will begin to look more and more appropriate." |
