MONUMENT SECURITIES: FOMC Set Policy Framework
13 Dec 09:35
By Stephen Lewis
Of Monument Securities
LONDON (Dow Jones)--The minutes of the 6 November FOMC meeting, released
yesterday, are of more than historical interest. They shed light on the
analytical framework that committee-members are using in deciding their policy
responses. The most striking revelation is that, though members were unanimous
in cutting leading rates by 50 bps, there was some disagreement over the
balance of risks statement. There were those who saw economic prospects
justifying a statement weighted toward greater risks of continuing weak
activity. But they fell into line with a consensus that favoured a neutral
position. The chief argument for a balanced risk statement was that the
financial markets might react adversely if the committee cut rates and kept a
weakness bias in the statement. The market reaction to the decision the FOMC
actually took was to assume the next move in interest rates would be upwards.
In the light of this, it might have been better to stick with the weakening
bias. However, Mr Greenspan and his colleagues could have had an ulterior
motive that they still prefer not to reveal. They may have wanted to create the
impression, with a neutral statement, that the yield curve was likely to
flatten, thereby driving investment funds to the long end of the
maturity-range. In this way, they may have hoped to perpetuate opportunities
for householders to refinance their mortgages and so release more spending
power into the economy.
The FOMC's deep concern was that household expenditure would slow down before
business outlays picked up. Members saw clear signs that demand from the
consumer sector was cooling. They are unlikely to have found much reassurance
on this score from data published since their November meeting. Though the
retail sales data released yesterday mildly impressed the markets, it marked a
slowdown in the underlying rate of expansion of spending in the current quarter
as compared with 2002Q3, even if taken at face value. In fact, we have serious
misgivings about the seasonal adjustments applied to this series. The
seasonally adjusted retail sales figures showed 2.1% growth year-on-year in
November, with 5.0% growth ex autos. The raw data, however, recorded
year-on-year growth rates of only 1.4% and 4.2% respectively. The adjustments
take account of the number of trading days and the incidence of holidays, which
may vary from year to year. There are no theoretical objections to
discrepancies between year-on-year raw and seasonally adjusted figures, though
they are large in this instance. The official statisticians, in fact, publish
two years in advance what they believe will be the appropriate seasonal
adjustments to monthly retail sales data. The curious point is that these are
not the adjustments that appear to have been applied to the raw data in recent
months. The net month-on-month difference between the projected seasonal
adjustments to retail sales and those actually used, comparing November with
October, seems to have boosted the month-on-month growth rate for November by
about 0.4 percentage points. This should unwind in the months to come. In the
meantime, we shall continue to treat the retail sales data with the same
circumspection with which we approach the initial jobless claims numbers.
On business outlays, the FOMC identified, in addition to weak corporate sales
and profits, capital overhangs from previous over-investment as inhibiting a
revival. The minutes record 'some divergence of opinion was expressed regarding
the overall extent of capital overhangs, though it was clearly evident in some
industries and in high vacancy rates in non-residential buildings in many areas
of the country'. This comment confirms our suspicion that the Fed is unsure how
long the capital overhangs will persist; indeed, it appears to have no clear
idea how large they are. The Fed continues to divertresearch resources to
estimating the size of the productivity benefits that will eventually accrue,
when there is a topic of more immediate concern to policymakers for its
economic staff to investigate. To the question when will business spending
recover so as to relieve the household sector of carrying the burden of
economic growth, the Fed's answer is, 'Don't know'.
The FOMC was far from confident that fiscal stimulus alone would support
demand. It believed the impact of last year's measures was fading and that the
effects of a new reflationary package would not be felt for a year or more.
Committee members have also taken on board, in a way the financial markets have
yet to do, the implications of budget pressures in the state and local
government sector. There are likely to be tax hikes and spending cuts at that
level of government that will offset any fiscal reflation the federal
authorities attempt. The FOMC is, therefore, likely to go on seeing monetary
policy as the major instrument for warding off deflation. The message is that
interest rates may well have further to fall.
-By Stephen Lewis: 44 20 7338 0179: analysis@monumentsecurities.com
(Stephen Lewis is chief economist at Monument Securities Ltd., London,
independent brokers specializing in institutional business.)
Opinions expressed are those of the author, and not of Dow Jones Newswires.
This column is published for information only, and it neither constitutes,
nor is to be construed as, an offer to buy or sell investments. The information
and opinions expressed herein are based on sources the author believes to be
reliable, but he cannot represent that they are accurate or complete. Any
information herein is given in good faith, but is subject to change without
notice. No liability is accepted whatsoever by Monument Securities Ltd.,
employees and associated companies for any direct or consequential loss arising
from this article. Monument Securities Ltd. is regulated by the SFA and is a
member of the London Stock Exchange, LIFFE and ISMA.
(END) Dow Jones Newswires
12-13-02 0935ET |
