Fed Pausing

April 30, 2008

In three respects, the FOMC statement confirms a pause in the rapid-fire reduction of the Federal funds rate to 2.0% from 5.25% as recently as September 17th. Stories in the business press had suggested this would be the case. For one thing, the statement declares for the first time that a “substantial easing” of policy to date has been implemented. Secondly, the assertion that “downside risks to growth remain,” which was included in the FOMC statement of March 18th,was deleted. Finally, the paragraph on economic activity observes weak, but not worsening, conditions. In March, activity was said to have “weakened further.” That was modified to “remains weak.” Likewise consumer spending “has slowed” was changed to “has been subdued.” On the other hand, business spending was also called subdued, which had not been mentioned in the March 18th statement.

At best it’s a pause, not a reversal. The Federal Open Market Committee still lists promoting sustainable economic growth as a goal ahead of promoting price stability. That implies a bigger perceived danger of deficient growth than of excessive inflation. The new statement does not mention the dollar but does again say that “some indicators of inflation expectations have risen in recent months.” The Wall Street Journal editorial page has taken the lead in criticizing relentless Fed rate cuts in the face of a weaker dollar, higher long-term interest rates, and far-too-excessive money growth. Between the announced Fed rate cuts on March 18th and today, the dollar recovered 6.4% against the yen and 1.3% against the euro, but two-year and five-year Treasury note yields had increased by 78 and 70 basis points, respectively. Ten-year yields went up 37 basis points. The Fed needs to guard against overplaying its hand and dealing enduring damage to confidence in the dollar and in a return to acceptably low inflation.



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