Interest Rates Remain Unchanged
Wednesday, June 25, 2008SUZANNE PRATT: The Federal Reserve today held interest rates steady, signaling the central bank has entered a new phase of monetary policy. The decision ends a series of sharp rate cuts, as the Fed shifts its attention from boosting economic growth to dealing with rising inflation. As Scott Gurvey reports, the key Federal funds rate remains at 2 percent.
SCOTT GURVEY, NIGHTLY BUSINESS REPORT CORRESPONDENT: The interest rate decision was as expected, but changes in the wording of the open market committee's policy statement left Fed watchers wondering what lies ahead. Although downside risks to growth remain, the statement reads, they appear to have diminished somewhat and the upside risks to inflation and inflation expectations have increased. Economist David Greenlaw of Morgan Stanley says it is not clear if the Fed is more worried about growth or inflation.
DAVID GREENLAW, CHIEF US FIXED INCOME ECONOMIST, MORGAN STANLEY: The market continues to want to price in some near term tightening. Although in the wake of the statement today, which didn't appear to provide a clear trigger for that tightening, the market has reined in somewhat its expectations for the next few meetings. I think the next move will be a tightening, but I don't think it's going to come until next year.
GURVEY: In deciding to leave the target Fed funds rate unchanged at 2 percent, the Fed ended a dramatic series of rate cuts which began on September 18 of last year with the funds rate at 5.25 percent. The Fed made six additional cuts for a total of 3.25 percent, as it struggled to combat the credit crunch brought on by the failure of sub-prime mortgage loans. But critics charge the cuts have had little effect on the housing market, where home values have plummeted and loans remain difficult to get. And they say the low rates have fueled inflationary pressures which began in the energy sector but are now moving into the general economy. Strategist Steven Ricchiuto of Handelsbanker Capital Markets says the Fed has told us what guideposts it will watch in the months ahead.
STEVEN RICCHIUTO, ECONOMIST, HANDELSBANKER CAPITAL MARKETS: They specifically emphasized the fact they think the downside risks to growth have diminished. And they specifically also indicated that they think the liquidity problem in the banking industry has improved. The combination of those two events tells a lot about what they're thinking and what to look at. By the same token, they continue to indicate that their concerns about inflation are really based on commodity prices, and that's why we have to see how those continue to move as we go forward.
GURVEY: The Fed statement says inflation is expected to moderate by the end of the year. But it also says uncertainty regarding the outlook is high. Scott Gurvey, NIGHTLY BUSINESS REPORT, New York.
PRATT: Joining us now for further discussion of the Fed's decision are Michelle Girard, senior economist at RBC Greenwich Capital Management and Mike Holland of Holland and Company. Nice to see both of you again.
MIKE HOLLAND, CHAIRMAN, HOLLAND & COMPANY: Hi, Suzanne. PRATT: Before we begin, I also want to just apologize to everyone for the noise behind me. There's a party on the floor of the exchange maybe celebrating monetary policy, who knows. But let me start off by addressing my first question to you Michelle. Were you at all surprised with the Fed's statement today?
MICHELLE GIRARD, SR. ECONOMIST, RBS GREENWICH CAPITAL MANAGEMENT: No, I expected that they would acknowledge the downside risk to growth and the fact that there were upside risks to inflation, but not directly compare the two. That would have been, what would have been really insightful was if they had said which one was the dominant concern and they didn't and I think that that was a signal while they're edging closer to perhaps thinking about hiking interest rates, their finger is not on the trigger.
PRATT: What about you, Mike? Do you think the markets expected the type of statement that we got today from the Fed?
HOLLAND: Yes, Suzanne and I think that the market response was exactly what Ben Bernanke would have hoped for. The stock market had some gains and kept those. And more important to the viewers, the bond market looked to be satisfied and relieved with not only the action was or wasn't but also the words. So I think the last comment that Scott Gurvey made about the Fed's comment, that the outlook for inflation was uncertain, I think was a key part of it.
PRATT: Michelle, some economists say after seeing the statement today, that policy makers may be too upbeat about economic growth, maybe minimizing the risk to growth. What your feeling about that?
GIRARD: Well, I think they certainly upgraded the characterization of the economy, but, quite honestly between the last meeting and now, we've seen the news -- it's not that it's gotten a whole lot better, but it hasn't gotten worse. The payroll declines have mitigated. We've seen consumer spending holding up surprisingly well, in part because of the rebate checks. So I think that the Fed acknowledgment that there are downside risks to the economy but they're diminishing I think is actually fairly accurate.
PRATT: Let me throw out this next question to both of you. Do you have more or less clarity after you saw the statement today about when the Fed is likely to move and what that move is going to be?
HOLLAND: Go ahead, Michelle.
GIRARD: I would just say I think we have less clarity. I think that it's -- I don't think there was any indication about timing from the statement. We think it will be in early 2009.
PRATT And what about you, Mike?
HOLLAND: I think it's a great question Suzanne, because I believe the Fed with its statement, using, again, Scott Gurvey's last word of the description, the outlook is uncertain. They have actually adopted, I think, under Bernanke, some humility about their lack of ability to predict and the -- I think they put us on notice that they will be responding to data as it comes in and they are not telling us that the next move is going to be an increase in 25 basis points before the end of the year. They didn't do that and I don't think they had any intention of doing that. I think Bernanke is doing a great job right now.
PRATT: And Mike, what do you think the market is anticipating in terms of when that rate hike will come? Is there a better sense today now?
HOLLAND: I think as Michelle alluded to before, nothing before the end of the year is probably in a lot of people's minds because the outlook remains uncertain for inflation. It could get better. The Fed said it hoped it would. We could plod along here with 1 percent kind of growth in the GDP until year end and maybe and then take another look.
PRATT: Michelle, what kind of economic conditions would we need to see in the next few months for the Feds to hike rate soon or sooner rather than later?
GIRARD: I think it's not about growth as much as it is about inflation and not even actual inflation, but inflation expectation. If people really begin to expect that the inflation run-up we have seen is longer lasting, then I think the Fed will respond. They want to ensure that the public understands that it's their job to keep inflation contained and they will do what's necessary. And if that credibility gets called into question, for me, that's the trigger, even if the economy has to suffer.
PRATT: What date-
HOLLAND: Suzanne, if I could just follow on with what Michelle just said, I think that's exactly right. And therefore the early indicator was the bond market's reaction today which said they're doing the right thing in their inflation stance and they're going to be very vigilant about inflation. The bond market, which hates inflation, said, OK, we believe them.
PRATT: Let me just throw this in. Does that mean Mike that the big focus for the market going forward is only inflation data, if you're looking at CPI, PPI and things that give us a good reading on inflation?
HOLLAND: I think it will be important, Suzanne, but I think the other two parts here -- growth in the economy, including jobs, and then the other thing, we haven't mentioned it all is the credit turmoil that occurred in March and April. The credit markets are still not fully healed. They're not in as bad a shape as they were then, but that was mentioned by the Fed. They're watching that. The credit markets have to work. Otherwise people can't buy their homes.
PRATT: OK, let's leave it there. Thank you both for joining us.
GIRARD: Thanks Suzanne.
PRATT: My guests this evening Michelle Girard and Mike Holland.
