Mixed Signals on Interest Rates Next Year
Are they going up or going down? This is a debate that is all the rage in financial circles as the Fed gets ready to meet on Tuesday to decide on the Federal Funds rate, the benchmark rate that signals the direction of our nation's monetary policy.
The debate is over the economy. Is it heating up, therefore putting pressure on the Fed to raise interest rates in order to keep a lid on inflation? While the unemployment rate in October rose to 4.5% from 4.4%, this is in line with seasonal expectations. Unemployment is still very low, indicating that the economy is strong, along with the demand for labor. The Fed is worried, with good reason, that this will put upward pressure on wages, and therefore upward presure on prices as the cost of producing goods rises. Make no mistake about it, the Fed has said repeatedly and clearly that they consider inflation to be the number one threat to our economy. This seems to indicate that the Fed will err on the side of keeping the Federal Funds rate on the high side.
But wait a minute. Yes the economy has been doing well, but there is certainly concern about the housing market and it's effect on the economy. It seems that every day there is an article about the soft real estate market, and how home builders are reporting sluggish sales. And a recent survey of executives indicates that manufacturing has slowed for the first time in over 3 years, also indicating a slowdown in the economy. Add the recent softness in the auto industry, and you have strong evidence that we might be heading into a slowdown, which would put pressure on the Fed to lower rates to stimulate the economy. To illustrate the point, the 10 year treasury bond, the bellweather inerest rate for long term rates, is curently around 4.5%, down from the 5.25% range earlier this summer. Obviously, bond traders (who make a living studying the economy) feel the economy is headed for a slowdown.
So who is right? Obviously, the economy can not be in danger of overheating and causing inflation, and be slowing down and at risk of tipping into recession at the same time. Clearly one scenario is right... the question is which one? As always, that remains to be seen. Most money managers expect the Fed to leave rates unchanged on Tuesday until they get a clearer indication which way the economy is headed. Stay tuned....
The debate is over the economy. Is it heating up, therefore putting pressure on the Fed to raise interest rates in order to keep a lid on inflation? While the unemployment rate in October rose to 4.5% from 4.4%, this is in line with seasonal expectations. Unemployment is still very low, indicating that the economy is strong, along with the demand for labor. The Fed is worried, with good reason, that this will put upward pressure on wages, and therefore upward presure on prices as the cost of producing goods rises. Make no mistake about it, the Fed has said repeatedly and clearly that they consider inflation to be the number one threat to our economy. This seems to indicate that the Fed will err on the side of keeping the Federal Funds rate on the high side.
But wait a minute. Yes the economy has been doing well, but there is certainly concern about the housing market and it's effect on the economy. It seems that every day there is an article about the soft real estate market, and how home builders are reporting sluggish sales. And a recent survey of executives indicates that manufacturing has slowed for the first time in over 3 years, also indicating a slowdown in the economy. Add the recent softness in the auto industry, and you have strong evidence that we might be heading into a slowdown, which would put pressure on the Fed to lower rates to stimulate the economy. To illustrate the point, the 10 year treasury bond, the bellweather inerest rate for long term rates, is curently around 4.5%, down from the 5.25% range earlier this summer. Obviously, bond traders (who make a living studying the economy) feel the economy is headed for a slowdown.
So who is right? Obviously, the economy can not be in danger of overheating and causing inflation, and be slowing down and at risk of tipping into recession at the same time. Clearly one scenario is right... the question is which one? As always, that remains to be seen. Most money managers expect the Fed to leave rates unchanged on Tuesday until they get a clearer indication which way the economy is headed. Stay tuned....
posted by Douglas Buenz at 10:03 AM
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