Tim Duy: The Fed Is Likely to Keep Raising Interest Rates for a Little While More

Tim Duy watches the Fed, and forecasts a yield curve inversion:

Economist's View: Fed Watch: Ready to Invert: I had previously believed that the Fed would not purposefully invert the yield curve (in this case, the spread between the 10 year and the Fed Funds rates). I had thought that whatever economic environment would drive tighter Fed policy would drive long rates higher. But it looks like inversion day is coming, barring some near term changes in the bond market. Moreover, the Fed looks to be sending a very specific signal: Even if we do pause at the March meeting, our bias remains tilted toward [fighting] inflation. A solid economy and rising energy prices means it is too early to call off the dogs. In my opinion, policymakers... are signaling that without a more dramatic change in the economic environment, the odds remain tilted toward more tightening in the post-Greenspan era....

The Beige Book was, in my opinion, somewhat hard to get a handle on. Mixed messages were common, leaving open the possibility of cherry picking little bits and pieces to support whatever story you want to tell. With that in mind, I concluded that the anecdotal message was that despite some cooling in housing and consumer spending, economic activity continued its solid expansion. And while prices pressures remain contained, there are enough signals of potential inflationary pressures to keep policymakers on their toes.... What about the labor side of the equation? Here it is worth repeating the relevant section from the Beige Book overview:

Most Districts reported signs of continued, if generally moderate, increases in employment. Cleveland, Minneapolis, and Richmond all cited moderate employment gains, with Richmond noting that its rate represented a slowdown. New York, Atlanta, Kansas City, and Dallas reported evidence of stronger employment growth. However, Boston noted that output growth had generally not translated into higher employment, while St. Louis reported a widely mixed pattern of layoffs and hiring. Hiring at financial and legal services firms is boosting the New York District's employment growth, although New York also reported some hiring in manufacturing. Atlanta reported strong demand for both skilled and unskilled labor, in part boosted by storm-recovery efforts. Atlanta reported several locations with tight labor market conditions, while Boston, New York, Philadelphia, Chicago, Kansas City, Dallas, and San Francisco all reported specific occupations in which jobs have been difficult to fill. Several of these Districts cited trucking jobs. Skilled construction workers are relatively sought after in Dallas and San Francisco, and skilled manufacturing jobs were mentioned by Boston, Chicago, and Dallas. Atlanta listed a variety of specialties in "extreme shortage." New York and San Francisco noted that finance-industry labor markets were relatively tight. Despite reports of labor market tightness, Boston, Philadelphia, Minneapolis, Kansas City, and San Francisco all noted that wage increases have been generally moderate. However, New York, Chicago, and Dallas all reported some acceleration in compensation.

Mixed messages here....

On, then, to the inflation story. Note that the report on trucking and shipping has the feel of emerging transportation bottlenecks....

Macroblog's [market-derived interest rate] probabilities are pretty accurate (traditionally, we get a new reading on Mondays). Next week another hike [in the Federal Funds rate] looks like a lock, and with policymakers holding the view that the economic is solid and inflation somewhat more likely than not, the risk remains better than even that Bernanke & Cos. first move is another hike. At a minimum, the Fed wants market participants to believe that even if the first Bernanke move is a pause, don't be surprise if a hike does occur at a later meeting. From their perspective, they are not yet seeing conditions that justify sending an all's clear signal. ]

Comments

[save_the_rustbelt]

Cleveland has a slightly optimistic report, which means they must be watching the economy on Mars instead of their own district. Ohio and Michigan are sinking fast, and the worst hasn't hit the auto industry yet.

Trucking jobs are going vacant because:

1) there is so much more foreign-source merchandise to move around the country, truck lines can't keep up

2) getting a CDL is cumbersome (Commercial Drivers License)

3) being away from home and eating truck stop food is not all that glorious, and sleeping in a truck in not that glamorous

4) anyone with even slight flaws on their driving record could be disqualified

I understand there is already a bottleneck at West Coast harbors, too much Chinese merchandise to handle.

[P O'Neill]

For what it's worth, here's what the WSJ's blog-like Washington Wire says:

>>
Are we there yet? The Federal Reserve is almost, but not quite, finished raising rates, 142 economists surveyed by the National Association for Business Economics predict. Nearly 40% of the NABE members surveyed expect the Federal Open Market Committee to stop raising its target for the federal funds rates at 4.75%, half a percentage point above the current 4.25% level. Roughly equal numbers of respondents said the FOMC would stop at 4.50% (27% of replies) or 5.00% (23% of replies). More than half of the NABE members working in the finance sector participants in the survey picked 4.75% as the stopping point vs. only 20% of those in manufacturing or other goods-producing businesses.

The Fed is widely expected to boost rates to 4.5% from 4.25% at its Jan. 31 meeting, Alan Greenspan's last as chairman. Chairman-designate Ben Bernanke, still awaiting Senate confirmation, is set to preside over his first meeting of the Fed's interest-rate policy committee on March 28. -- David Wessel

[kharris]

The messages are mixed not only among anecdotal reports from the Districts, but also from policy makers. The two groups seem to be the "don't forget the lags" group and the "high resource use means inflation" group. The regular assertion that the Fed is now fully data dependent grows out of this split. If the lagged impact of earlier rate hikes proves large, then inflation should slow along with growth this year. If resource markets continue to tighten, either because the Fed"s rate hikes have failed to have much impact or because foreign demand offsets any slowing in US demand, then we should see inflation pick up. Problem is, while the two views are both forward-looking in theory, in practice they reactive. Under a reactive policy regime, odds are the Fed will either leave policy too tight for a time, or we"ll have a brief (?) bout of inflation.