Will They or Won’t They Raise Rates to Deflect Inflation?
Is the economy on the healthy road to recovery or a bumpy road leading to inflation? That is the question facing analysts as the Federal Reserve indicated Monday that it may stay the course through 2004.
With gross domestic product (GDP) breaking 20-year quarterly pace records with its 8.2 percent growth in the third quarter of last year and gold and raw material prices rising fast as the dollar loses steam, some worry about inflation caused by the Fed’s lack of action as the economy operates at top speed.
"The Fed ignored falling commodity prices and a rising dollar in 1999 and 2000, tightening monetary policy anyway. The result was a recession and deflation," Brian Wesbury, the conservative chief economist at Griffin Kubik Stephens & Thompson in Chicago, told CNN/Money. "This time the Fed is making the same mistake, but in the opposite direction. The result will be rising inflationary pressures and bond yields."
Even though their key federal funds rate is at 1 percent — the lowest level in 40 years and considered by many to be an unsustainable "emergency" level — Fed policy makers haven't exactly been laying the groundwork for an impending rate hike, CNN/Money reported.
Fed Governor Ben Bernanke said Saturday that most worries about the economy are unsubstantiated and can be chalked up to a stronger global economy (in the case of higher commodity prices) and unrest in the world (in the case of higher gold prices since gold is considered a safe-haven investment.)
"There's no reason for the Fed to raise rates," Scott Brown, chief economist at Raymond James & Associates, told CNN/Money. "With inflation very low, interest rates should be low as well."
However, the Fed funds futures markets indicate there may be a hike as soon as May.
"We haven't seen big gains in jobs yet, so Greenspan can't be completely confident this expansion will be self-reinforcing," Anthony Crescenzi, bond market strategist at Miller Tabak & Co., told CNN/Money, referring to Fed Chairman Alan Greenspan "But I believe a blowout employment report is on the near-term horizon, and that will set the conditions for a change in interest rates."
With a presidential election looming this year, some think the Fed is trying to keep the economy moving to help President Bush’s chances for re-election. Others believe the Fed won’t hesitate to act by raising rates if necessary.
"They'd just as soon sit on the sidelines in an election year, but they will do what they have to do, and they have moved in other election seasons," former Fed economist Wayne Ayers, now chief economist at Fleet Boston Financial, told CNN/Money.