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April 29, 1988
At this writing, Friday afternoon, the bond market has had another shaky week, and interest rates are up a little. We have our first quote in a long time for FHA 10.5s at a quarter discount.
The week's economic data shows a healthy economy with some inflationary pressure, but hardly an overheating one. First Quarter GNP was up 2.3% (beware of revisions to come), Personal Income rose .8%, Existing Home Sales rose 2.5%, Machine Tool Orders fell 14.6%, New Home Sales rose 4%, February Leading Indicators were revised from up .9% to up 1.3%, and March Leading Indicators rose .8%. The GNP Deflator (used to correct GNP for inflation) is regarded as one of the very best inflation gauges (far more reliable than the Consumer Price Index), and it showed a rise of 2.4% in the first quarter.
The Fed's role is to anticipate acceleration in the economy, and slow its growth before it gets too hot (same thing in reverse to prevent depressions). The classic line about the Fed is that "they are the guys who take away the punchbowl just when the party gets going good." There is a small philosophical problem: NOBODY knows for sure how to anticipate correctly. Two pieces of technical data this week cause me to think the Fed will tighten: all three monetary aggregates have shown a sharp growth rate increase in the last 90 days, and new unemployment claims appear to be at a fifteenyear low. Mr. Greenspan has indicated that he prefers to tighten early and only a little in order to preempt overheating. Particularly in an election year, the Fed Chairman will prefer to tighten a little now rather than a lot in October. This sort of "fine tuning" has been tried many times before with indifferent results (both too much and too little).
I express no opinion about the economic results from Fed policy, but I think we had best think about 11s close to par, and explain to borrowers that they are better off to get the house and have locked too high than try to save $500 or a half in rate and lose the house. Fed Funds have traded close to 7% for two days; if the pattern persists into next week, the Fed has hit us again.
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