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July 30, 2006

All Systems Stop

At midweek, Tim Duy wrote this at Economist's View:

Futures markets appear to have no clear conviction on the outcome of the next FOMC meeting. The message is that market participants are looking for one more rate hike, either in August or September. Moreover, they doubt the Fed’s position that “pause does not mean done.”

That was indeed the case then, but this is now.  Bringing you tomorrow's news today, here is what the probabilities estimated from options on federal funds futures look like as the week of before the next meeting of the Federal Open Market Committee begins:

   

August_11   

   

Friday's second quarter GDP report really wasn't all that bad, but apparently not as good as expected was enough.  And Professor Duy was right -- the market does seem to doubt the Fed’s position that “pause does not mean done.”

   

September_2

   

It's still a relatively long time to September, but at this point it is hard to see what might significantly shift sentiment about this week's meeting.

UPDATE:  I take it back. Tomorrow's ISM and PCE reports could loom large.  And there was this, from Federal Reserve Bank of St. Louis president William Poole:

Federal Reserve Bank of St. Louis President William Poole said he's undecided on whether the central bank should raise interest rates at its next meeting in eight days.

Poole, speaking to reporters after a speech in Louisville, Kentucky, said he's "50-50'' on the decision, which needs "all our analytical skills.'' Recent data show slowing economic growth, while inflation has "tilted'' upward, he said. Containing inflation is the Fed's "primary'' goal, he added.

UPDATE II: Action Economics (subscription required) reports:

SF Fed's Yellen did note rule out more rate hikes though she said that the Fed funds rate is "in the vicinity" of the right level, noting the Fed remains responsive to the data and she expects below-trend growth later in 2006 to pull down inflation. Yellen also confirmed that the Fed was mindful of policy lags and even though core inflation is above her comfort zone, the Fed can pause before it begins to decline, while retaining a more restrictive policy setting... Overall the comments are fairly balanced and do not rule in or out another hike in August

July 30, 2006 in Fed Funds Futures | Permalink

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Comments

It does seem as though if the Fed pauses, it will be because they believe the data is pointing to a slowdown. If there is a slowdown there it won't be a pause, but a stop.

So if they believe the data shows a slowdown, then we would need to see strong subsequent data to cause a reversal of opinion. That's in sharp contrast to the attitude of the last 2 years, where the default position was to hike.

Posted by: Tom Graff | July 31, 2006 at 04:02 PM

It is hard for me to see why the fed wants to create all this uncertainty. They say they are forward looking but want to find out what next weeks data brings before they make up their minds. Is that a consistent position?

One thing we had when Gspan was running the fed was a fed bias. The fed would tell you if they are more biased towards hiking or easing. Bernanke has no bias -- so every meeting is essentially a guess for the markets.

Then you have the big white dove Yellen suggesting it may be prudent to pause in Aug in hike in Sep. LOL. Why not ease in Aug and hike 50bp in Sep?

Posted by: vincentm | July 31, 2006 at 09:30 PM

Meanwhile ..... the speculators are still pushing prices up, up, up as Janet chews on her foot.

The Fed better punish the poulation until those nasty hedge funds and super banks stop jacking inflation.

Posted by: quiz | August 01, 2006 at 12:28 AM

Personally, i'm more interested discussions of the combined effect of price inflation & wide open credit markets.
Check out Ca electric bill increases, for instance. Mine's up 60% yoy with only a 14% kwh usage increase. That put our last monthly bill at $350/month. But, don't worry for me, I'm making no spending adjustments to pay for it. I'm putting it on one of my 0% interest rate (thru mid 2007) credit cards.
On a not so separate topic, can you tell us if anyone at the Fed is looking into the effects from repealing Glass-Steagall?

Posted by: bailey | August 01, 2006 at 10:09 AM

There's something comical about Yellen suggesting that the current rate environment is "restrictive". Is 5.25% really "restrictive"? As a simple example let's say I borrow $100 IO (balloon and interest due at years end) for one year at 5.25%. My real cost at the end of the year for borrowing the $100 is only $.72 (using June '05-'06 CPI 4.3%.) It must be that my math skills are rusty, or most likely completely flawed, because that seems awfully close to free borrowing costs to me. I'd hazard a guess too that by the time you factor in the ubiquitous tax breaks for interest payments, it's perhaps even better than free. Can someone more mathematically gifted or economically insightful show me how 5.25% is "restrictive"?

Posted by: JS | August 01, 2006 at 11:10 AM

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