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Strategies & Market Trends : John Pitera's Market Laboratory -- Ignore unavailable to you. Want to Upgrade?

To: Chip McVickar who wrote (1322)	4/26/2000 11:30:00 AM
From: Chip McVickar	Read Replies (1) \| Respond to of 33421

Economic Update ? April 2000 Fed Rate Hikes Most Likely to Result in 'Soft Landing' for Economy by Daniel E. Laufenberg There are only minor changes to the forecast this month. While the estimate for economic growth over the four quarters of 2000 remains at 3.3%, the quarterly pattern has been revised a bit. In particular, the first quarter is now expected to be stronger, but at the expense of the second quarter. Consumer spending, which has been the key to the solid growth in recent years, is expected to slow down somewhat later this year, but only if the Federal Reserve continues to apply pressure by raising interest rates further. I still expect consumer price inflation to be slightly higher this year (3.0% versus 2.6% in 1999), reflecting in large part an acceleration in core inflation (which excludes food and energy) from a very subdued pace last year. However, through the first two months of 2000 higher energy prices, not core prices, continued to drive inflation. So far this year, the consumer price index was up more than 4.0% at an annual rate, while the core rate was up a mere 2.0%, only a fraction higher than the 1.9% increase for all of 1999. I don't think core inflation will remain so subdued much longer, though, because of a host of less favorable factors. Higher import prices top the list, followed by rising medical costs and a pickup in service inflation. The most recent data suggest that import prices, even excluding petroleum, have indeed begun to rise. For several years, U.S. companies have been denied the opportunity to raise prices because of intense foreign competition. That is likely to change, as the rest of the world economies gain strength while the U.S. slows down, no longer filling the role as "buyer of last resort." As for interest rates, the forecast is virtually unchanged. I still expect rates to rise this year, with short-term rates seeing most of the action. However, this has not been the case recently. The yield on long-term Treasury bonds has fallen considerably from the highs of late last year, largely because of the Treasury's plan to buy back about $30 billion of its outstanding debt this year. As long as the market is convinced that the buyback will result in a shortage of long-term Treasury bonds, the yield on the 30-year Treasury probably will remain below the yield on shorter-term bonds. A Soft Landing Getting back to the economy, the most likely scenario is that the Fed will be able to engineer a "soft landing" ? a slowdown in growth as opposed to a recession. There are several factors at work to support this case. Both the Fed and Congress have plenty of leeway to adjust interest-rate and taxation/spending policies to prevent any pause in economic growth from killing the expansion. On top of that, the economy is operating at virtually full employment, private sector balance sheets are in good shape, and there are budget surpluses at nearly every level of government. So, barring some unpredictable external shock to the economy, the expansion ought to continue this year. There will be some nervousness along the way, though, as the Fed remains active on the interest-rate front. In his recent statements, Chairman Alan Greenspan has made it clear that he believes the nation's prosperity has created a supply/demand imbalance that is likely to push inflation higher. The clear implication is that to avoid the inflation risk and, ultimately, the risk to the economic expansion, longer-term interest rates will have to rise. And that means the Fed will first have to push short-term rates higher yet. Right now, I think three more quarter-point rate hikes over the spring and summer seems like a good bet. Dan Laufenberg is the chief U.S. Economist for American Express Financial Advisors.