21 Jul 2006 Is the Fed Posturing for a Pause?
“Economic moderation seems to be underway” which “should help to limit inflation pressures over time” said Fed Chairman Ben Bernanke in his prepared comments to the Senate Banking Committee on Wednesday. He noted the importance of “forward-looking” and taking a “longer-term” view as rate increases take time to affect the economy. It may be that Mr. Bernanke and his Fed may have raised rates as far as they are going to for the foreseeable future.
The Fed has raised interest rates 17 straight times since beginning a steady march upward in mid 2004. The Fed funds rate at 5.25% is at a five-year high. But as the Wall Street Journal points out, officials have in recent meetings gradually backed off their pre-commitment to raise rates, saying at their June 28th-29th meeting that “the extent and timing of any additional firming that may be needed… will depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information.” Mr. Bernanke repeated that assessment on Wednesday.
As previously stated, the outlook is moderating. In forecasts delivered as part of the semiannual report Wednesday, the Fed said it expects gross domestic product to grow 3.25% to 3.5% this year and slow to 3% to 3.25% in 2007. It expects inflation measured by the personal consumption expenditures price index excluding food and energy to rise between 2.25% and 2.5% this year, up from its previous forecast of around 2% and above what has been considered to be the Fed’s comfort zone of 1% to 2%. Are they implying that they can live with the increase in the short-term given that longer-term pressures appear minimal?
In his comments to lawmakers on Wednesday Mr. Bernanke noted that gains in residential rents and imputed owner-occupied rent “have recently contributed to higher core inflation.” Some economists contend that measurement of rents artificially boosts core inflation, since a slower home market tends to boost rental prices, according to the Wall Street Journal.
The Labor Department reported that the June consumer price index increased 0.2%. Excluding the more volatile food and energy, consumer prices advanced 0.3%, the fourth-straight rise of that size. Mr. Bernanke stressed that we must consider the future implications of policy moves already in the pipeline. Economic growth data have been mixed since the June FOMC meeting. Payroll growth slowed to just 121,000 jobs created and consumer spending and housing figures suggest the economy slowed considerably in the second quarter. Mr. Bernanke pointed out that “although growth in household spending has slowed, other sectors of the economy retain considerable momentum,” Mr. Bernanke said, citing business investment and a global economy that “appears strong.”
In light of a slowing economy, we have reduced our holdings in cyclical companies over the past several weeks in favor of more defensive positions such as Pepsico, Johnson & Johnson, and Procter & Gamble. Further, as our confidence grows that the global economy will maintain its growth, we are adding (modestly) to our international holdings. They are comprised primarily of investments in Europe,Australia, and the East. To a lesser extent we are picking up positions in some of the badly beaten up developing markets such as Latin America.
Finally, Patty and I have been out of the office for the past couple of days at a conference to put the finishing touches on a major new service that we will be rolling out very soon. The program puts you, our client, at the center of the investment process. We spend the time it takes to fully understand your financial goals and priorities, we then carefully model them, and through a sophisticated program provide you with an ongoing level of confidence that you will meet your goals. It is our hope that this planning process will provide you with a comprehensive, easy to follow investment plan that may provide for actually reducing your market risk or the savings required to meet your goals. If you have ever participated in a financial planning exercise, you will find this process painless by comparison, but it is oh so much more valuable. We’ll be in touch with you soon to schedule an appointment.