Commentary > Bid and Ask
Does the Fed matter?
Nobody is talking much about next week's Fed meeting. With good reason.
August 7, 2003: 11:40 AM EDT
By Justin Lahart, CNN/Money Senior Writer

NEW YORK (CNN/Money) - Next week's Fed meeting has generated surprisingly little talk on Wall Street.

Or maybe it isn't that much of a surprise. First off, hardly anybody thinks there will be a move in rates. None of the economists at the 22 firms that deal directly with the Fed think anything will happen next Tuesday, and only four see any move at all for the remainder of this year. The fed funds contracts, which price off of rate expectations, are showing basically no chance of the Fed doing anything until next January.

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Justin Lahart, senior writer at CNN/Money, comments on the Fed's upcoming meeting next week.

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Well, what about the all important policy statement that the Fed puts out at the conclusion of each meeting? That can be hugely important for the market even when the Fed leaves rates unchanged -- heck, especially when the Fed leaves rates unchanged -- because it helps investors understand where policy is headed in the future.

The problem? Right now the market doesn't appear to think what the Fed says about its policy is all that relevant. And why should it? The Fed has given out so many mixed messages over the past year -- especially over the last few months -- that investors are having a very hard time trusting anything it has to say.

Through most of the spring the message was that, come hell or high water, the Fed was going to keep long-term interest rates down. The market responded by driving Treasury yields down to their lowest levels in over 40 years. But then Fed officials started to say that they'd been misinterpreted, they hadn't meant that at all. (Or maybe it was that the market interpreted them too well, and they were surprised by how much Treasurys moved.) And then they acted surprised by how much the market reacted to their remarks on how they'd been misinterpreted.

So investors stopped paying much attention, and the Fed lost control of the bond market.

The bother of it is that investors could really use a little clarity out of the Fed right now. Expectations of where rates are going to go next are all over the place. Those four economists that think the Fed will move this year are all betting on a cut. The rest think the Fed will raise in mid 2004, or late 2004, or sometime in 2005. Meanwhile, the fed funds futures market is saying the Fed will raise rates by its March meeting next year.

All that confusion makes it hard for investors in the bond market to figure out what, exactly, they should be doing or whether prices are expensive, reasonable or cheap. In his most recent note, PIMCO managing Director Paul McCulley complains mightily that the Fed needs to establish some sort of framework to allow investors know where rates are going. It's sad to see the world's biggest bond fund being reduced to begging.

The nation's banks can't be very happy with the situation, either. The fed funds rate sets what sort of interest they have to pay depositors or, to put it differently, what their borrowing costs are. With Fed expectations all over the place, it makes it more difficult for them to accurately assess what sort of risks they face, and plan for the future. That could lead them on the one hand, to taking unnecessary risks or, on the other, to playing it too conservatively. Neither of those things are welcome.  Top of page

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