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September 17, 1999
As fears of a Fed rate hike on October 5 have receded, so have interest rates: low-fee mortgage deals have reached a three-month low near 7.75%. Since June, each time mortgages have reached this level they have rather briskly rebounded to eight-something.
Economic data are still running strong. August retail sales jumped 1.4%, double the forecast; and industrial production, expected to hold unchanged after a huge, .7% rise in July alone, instead put in another solid, .3% gain. The CPI seemed to reassure the credit markets, up only .1%, .3% for the "core" rate. However, crude oil yesterday reached $24.53/bbl. I cannot help my oil worry, still scorched as I am by memories of 1973-74 and 1979-80, gas lines, double-digit inflation, and double-digit mortgage rates. However, authoritative voices say that at per-barrel prices like these, OPEC quota-cheating is inevitable and we need not fear high-twenties.
So, Fed on the 5th, or no Fed? The credit markets think not. The yields on short term instruments -- T-bills -- are unchanged from the last tightening, and an eighth percent or so under their yields during the worst episode of Fed-fright in early August. However, all we know for sure from current yields is that a Fed move is not "built in" to the current rate structure -- unlike conditions before the first two hikes this year. Those rate rises did no damage to mortgages because the market saw 'em coming. If the Fed goes on the 5th it will hit the markets on the blind side. I don't think it's a good idea to be quite so relaxed going in to the first week of October. On probabilities, being locked at a three-month low looks pretty good. The Fed isn't worried about inflation today; it's worried about inflation six months to a year from now. It takes that long for anything the Fed does today to take full effect on the economy, and in the interval the troublesome conditions within the economy will continue to compound. The trouble lies in the Chairman's key equation. He says the limit of low-inflation economic growth is the sum of the natural growth of the labor force (1%) plus gains in productivity (2%), a total of 3% per year. At that his equation assumes productivity rising at double the pace of the 1970's and 1980's. Growth in excess of 4% will some day draw down the labor force so far that wage competition and inflation will result. The economy has been in such a draw-down for five straight years, and the Chairman is behaving as though he won't tolerate a sixth. Only a natural slowdown in the economy will prevent him from creating one. Does anyone out there anywhere see a "natural slowdown" underway?
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