With your host Hank Cunningham
Harry Koza's Weekly column
May 12, 2006
Paging Dr. Phil: Data dependency's got a hold of the Fed
This week, the Federal Open Market Committee raised U.S. interest rates again for the 16th straight time (to 5 per cent). It wasn't a surprise, as bond markets had long since discounted it -- indeed, they had been waiting with bated breath for Federal Reserve Board chairman Ben Bernanke and his minions to get the rate hike out of the way and give them some sense of direction in the accompanying statement. After all, unlike his predecessor, the often obfuscatory Alan Greenspan, Mr. Bernanke is said to be an advocate of transparency and clear central bank communications.
The statement accompanying the rate hike, however, was about as clear as mud: "Some further policy firming may yet be needed to address inflation risks," it said, pretty much the same as the last FOMC statement, except for the addition of the word "yet," which some dismal scientists (let's call them the Yetis) immediately imbued with near-Kabbalistic significance.
"An omen from on high," they cried. "The Fed is waffling, they've qualified their rhetoric, the rising interest rate cycle is ending. Oh, frabjous day! Calloo! Callay!" Still, the statement, in the same sentence, went on to emphasize that "the extent and timing of any such firming will depend importantly on the evolution of the economic outlook as implied by incoming information."
Well, that's just typical, isn't it? Yeah, we may keep raising interest rates if inflation raises its ugly head again, or then again, we may not. It depends on the next economic indicateur du jour.
On the one hand, there's the risk of inflation because of rising energy and commodity prices, so rates may have to go up again. But on the other hand, it looks like the U.S. housing market has peaked and may be starting to roll over, which high energy costs won't help, either, and rates may have to be cut to avoid a recession. If economic growth moderates, higher rates may not be necessary: If it doesn't, they may. It all depends.
Oh, for a one-handed economist!
So, after obsessing for a week about the FOMC announcement, now the market gets to obsess about the next economic statistic. Non-farm payrolls, CPI, PPI, ISM, GDP, the rest of the alphabet soup (my personal favourite is the domestic Canadian release of the industrial product price index and the raw material price index, or IPPI and RMPI, a generally innocuous statistic that always reminds me of TV cartoons -- Ren and Stimpy, meet Ippi and Rimpy!) -- any of the major data can make bond prices jerk up or down.
The Yetis figure that the Fed may now take a pause after 16 straight rate increases. Of course, some Fed watchers, economists and other market haruspices have been saying that since, oh, about rate hike No. 5. You could even say that the Yetis's forecasting record has been, well, abominable.
Others think that more rate increases are in store. As Harry's First Law of Central Banking states, they always raise (or lower) rates once too often. Seriously, this is something central bankers lose sleep over, since they have caused recessions and bubbles in the past by tightening or loosening monetary policy too much. Nobody wants the next FOMC statement to include the word "oops!" Mind you, use of that word really would be fraught with semiotic significance.
Anyway, from here on out, it all depends on the data. The Fed is now said to be "data dependent," as if they haven't been up to now.
I dunno, this almost sounds like a job for Dr. Phil. Maybe he can even help the market's co-dependents by getting the Fed and the bond market on a 12-step program (though the 16-step program they've been on hasn't really taken so far, has it?).
Personally, all this gradualist finessing of the policy levers is getting to be a drag. I mean, come on Mr. B. You want to put your stamp on the Fed? You want to take some steam out of an overheating economy? Jack rates up half a percentage point, or even a full point. You want to prop up a sagging economy? Cut rates a point. Send a clear message. This quarter-a-pop thing is getting to be like death by a thousand cuts, or at least, death by a thousand hikes.
You're worried that if markets anticipate rising inflation, then inflation will rise? Show the market who's boss. Enough with the Gentle Ben stuff: show us Rabid Grizzly Bear Ben.
This, of course, is not going to happen. Instead, the market, "yet" again, will go back to playing "will he/won't he" with Mr. Bernanke. And if the Fed does break its streak of rate hikes by taking a pause for an FOMC meeting or two, and then resumes raising rates, it could be even worse. The market would have conniptions. It's almost enough to make you wish this was France, and the Fed, the Bank of Canada, and everybody else could all just go on vacation for 12 weeks, starting June 1. That would work for me.
Harry Koza is senior Canadian markets analyst at Thomson Financial and a columnist for GlobeinvestorGOLD.com.
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