Chirac has the typical French attitude... Anyway, how about this on interest rates?
New York, April 23 (Bloomberg) -- The Federal Reserve may raise interest rates to 4 percent over the next 20 months to combat accelerating inflation as the economy grows, interest rate futures show.
Eurodollar futures, a gauge of three-month U.S. lending rates, indicate the central bank by yearend will increase its target for overnight loans between banks by 1 percentage point to 2.75 percent.
The Fed will be more aggressive next year, based on the 5.205 percent yield on the December 2003 contract, and raise rates by at least another 1.25 percentage points, traders said.
``The longer the Fed keeps rates'' at the current 1.75 percent, ``the more it'll have to do in 2003'' to prevent the economy from overheating, said Vince Menna, vice president in charge of money market and short-term trading at Credit Agricole.
Traders and investors sent yields on interest rate futures maturing in 2003 and 2004 higher on concern the central bank will wait longer to raise its target rate from a 40-year low as it tries to spur business investment and aid profitability.
The gap between one-year and two-year interest rates based on Eurodollar futures, a yardstick of expectations for Fed policy changes, is the widest in more than nine years.
Inflation as measured by consumer prices rose at a 1.5 percent year-over-year rate in March, up from 1.1 percent in February. Inflation is still below its level of more than 3 percent in 2000, though the pace is quickening. The Commodity Research Bureau Index, closely watched by traders, rose to more than 208 in April, its highest level since last July.
Widening Gap
The gap between one- and two-year interest rates calculated from Eurodollar futures is wider now than when the central bank was raising interest rates in 1994 and in 1999.
That difference averaged 1.15 percentage points in the first quarter, more than triple the 31 basis point quarterly average since December 1993. A basis point equals 0.01 percentage point.
``The Fed has some heavy lifting ahead to move from current low rates encouraging growth, to keep inflation from accelerating along with the economy,'' said Mike Sheridan, who helps manage about $15 billion in assets for the Reserve Funds, a mutual fund company.
The increases signaled by interest rate futures aren't as great as last year's rate reductions. In the most aggressive series of cuts in Fed Chairman Alan Greenspan's tenure, policy makers lowered their target rate 11 times, to 1.75 percent from 6.5 percent at the start of 2001, to aid a sagging economy.
1993 Again?
The last time traders felt the Fed waited too long to boost rates was 1993, when the central bank never changed its target. In 1994, the Fed raised its federal funds target 2.5 percentage points to 5.5 percent; it had been unchanged at 3 percent for 17 months between September 1992 and February 1994.
Interest rate futures show traders expect ``a recovery will take hold and Greenspan will be playing a rather sensational game of catch-up when it happens,'' said John Nyhoff, chief economist for Tokyo-Mitsubishi futures in Chicago.
The Fed may then have to raise rates a few times by 50 basis points instead of by 25 basis points, until fed funds reach 4 percent, he said.
Two-year notes, the most sensitive to changes in the Fed's target rate, yield 1.01 percentage points above the Treasury's one- year constant maturity rate, which is equivalent to a one-year Treasury security. The maximum gap between the two has been about 50 basis points over the past six years.
Nervous Traders
The widening difference between the two indicates traders are ``getting a little nervous that the economy is starting to move, and Greenspan is still embracing this very cautious posture,'' said Dan Seto, senior economist at Sumitomo Life Investment Co. Ltd.
In testimony to Congress last week, Greenspan indicated the central bank isn't certain a sustainable recovery has taken hold, saying there is ``ample'' time before rate increases are needed.
Traders disagreed, hoping for a signal the central bank was moving toward higher rates.
``The longer the Fed waits, the more painful it is going to be next year,'' said Maria Fiorini Ramirez, president and chief executive of MFR Inc., a research firm. ``Two-year note yields will be at least 50 basis points above fed funds'' and heading toward 4.5 percent, she said. |
