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So much for 'measured'
The few markets that are open react to Fed statements that rate hikes could be faster than expected.
June 11, 2004: 2:09 PM EDT
By Mark Gongloff, CNN/Money senior writer

NEW YORK (CNN/Money) - It's probably a good thing U.S. stocks weren't trading Friday; otherwise, they might very well have been hurt by some Fed officials' hints that the central bank could be jacking up interest rates faster than many people expect.

But investors might also have taken comfort in some signs that a more "measured" pace of rate hikes could still be in order.

After its most recent policy meeting, in early May, the Federal Reserve said it could raise its target for the fed funds rate, an overnight bank lending rate it uses to speed up or slow down the economy, "at a pace that is likely to be measured."

The typically tortured Fed verbiage reassured markets that a repeat of 1994 -- when the Fed hiked interest rates by a whopping 3 percentage points -- wasn't in the cards.

Since then, however, a parade of Fed officials have hastened to warn markets that it might not be so "measured" in pulling rates up from 40-year lows after all.

On Friday, for example, Atlanta Fed President Jack Guynn said the go-slow approach could be scrapped if inflation picks up too much.

"The word 'measured' is more of a plan than a pledge," he said, a warning repeated in the past week by Fed Chairman Alan Greenspan, St. Louis Fed President William Poole, Kansas City Fed President Thomas Hoenig and New York Fed President Timothy Geithner.

Later Friday, Cleveland Fed President Sandra Pianalto warned that a failure of the Fed to react quickly to the threat of inflation "puts our hard-won credibility at risk."

You think they're trying to tell us something?

The foreign exchange market certainly got the message Thursday night and Friday morning; the dollar jumped on the expectation that higher rates would attract foreign investors to U.S. fixed income.

Though there was no open trading at the Chicago Board of Trade in observance of the national day of mourning for the late President Ronald Reagan, electronic trading in fed funds futures contracts fully priced in an aggressive half-percentage-point increase in the fed funds rate at the Fed's policy meeting scheduled for Aug. 10.

"The Federal Reserve, with the ink barely dry on its statement of intent to move in a measured pace, has begun a new theme that says 'measured' may be too slow," said Robert Brusca, chief economist at Fact and Opinion Economics.

Caution on June 30

Markets still believe the Fed will raise rates just a quarter percentage point at its next policy meeting June 29-30, and there are several reasons to believe that will be the case:

  • The Greenspan Fed has never started raising rates with anything more than a quarter-percentage-point hike
  • Job growth and inflation have clearly gathered steam, but not so much yet to require an accelerated pace of tightening, according to most analysts
  • June 30 is also the date the United States transfers Iraqi sovereignty to an interim government; given the potential for nasty surprises inherent in that, the Fed may not want to give the market any more surprises to deal with.

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"Unless there is some indication of a much higher-than-expected rate of inflation or an economy much stronger than realized, the Fed will probably lift fed funds by no more than 25 basis points in June," said John Lonski, senior economist and bond market analyst at Moody's Investors Service.

There are 100 basis points in one full percentage point.

In fact, there have also been some signs lately that the economy isn't overheating so much that a faster pace of tightening is warranted:

  • Weekly jobless claims have stopped falling in recent weeks, and the four-week moving average of claims has climbed three weeks in a row
  • The Chinese economy, which has been inhaling the world's commodities and pushing up wholesale prices, has apparently cooled from white hot to merely red hot
    Federal Reserve
    Economic Indicators

  • The Economic Cycle Research Institute's (ECRI) weekly leading index, which telegraphed the strong economic growth of recent quarters, fell this week to the lowest level in more than a year.

Unfortunately, this doesn't necessarily mean the Fed can relax; the ECRI's inflation gauge, like other inflation measures, is still pointing higher, according to ECRI managing director Lakshman Achuthan.

"Right now, we have a slowdown in the economy to trend growth or lower clearly in front of us, which will show up by the end of summer or the fall," Achuthan said. "At the same time, inflation pressures as far as we can see, the next couple of quarters, will continue to rise."

"The Fed's in a bit of a box."  Top of page

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