Fed may further apply brakes
By William Sluis
Chicago Tribune
The Federal Reserve's efforts to slow the economy with a series of interest rate hikes create an understandable skepticism in many Americans. Why hit the brakes when the old bus is barely starting to accelerate?
Members of the central bank say they aren't trying to make activity less robust. They simply want to bring rates to a more neutral level, one more typical for an economy that is reviving.
Of special concern for members of the Fed is housing, where prices in much of the country have been rising at a rate of 7 percent a year or more. Such steep appreciation could create a bubble or leave millions of potential buyers out in the cold.
Get ready for Wednesday's report of October housing starts to show a steep rebound, after an unexpected 6 percent drop in activity a month earlier. Economist Sung Won Sohn expects construction to advance at an annual rate of 1.98 million units, up from 1.9 million in September.
"Much of the slowdown in housing was caused by the hurricanes, which held back work even though permits in September were at a very high level," said Sohn, of Wells Fargo & Co. in Minneapolis.
Construction is roaring back, he said, because mortgage interest rates have fallen and the job market is on the mend.
"Housing is like a cat with nine lives," Sohn said. "It keeps coming back and back and back. After a record year in 2004, we foresee a near-record in 2005."
Although economists have pooh-poohed inflation for many months, last week's quarter-point interest rate increase by the Fed, to a flat 2 percent, indicates central bankers believe the dragon may be stirring.
Critics of the Fed believe policy-makers have been too slow in responding to soaring prices for commodities, which are near a 23-year peak. Oil has dropped from record levels, but the dollar's descent to an all-time low vs. the euro is saying the Fed is handing out money too cheaply.
Economists are divided about what members of the central bank will do when they meet Dec. 14, though a majority believes they will boost their short-term barometer further, to 2.25 percent.
By the middle of next year, many analysts see the rate rising to 3 percent and a few see it at 3.5 percent.
This week, Fed members will carefully monitor two inflation reports for October: the month's producer price index Tuesday and the consumer price index Wednesday. Pressure on the Fed to ratchet up rates will increase if both reports show a gain of at least 0.4 percent, which is what economists expect.
Although most measures of the economy show expansion at a modest rate between 3.5 percent and 4 percent, one series is creating cause for concern.
The index of leading economic indicators fell by 0.1 percent in September, its fourth decline in a row. The index is supposed to be able to foretell activity six months or more into the future. Over the last half-year, it has been dropping at a 0.3 percent annualized pace, hardly the stuff of boom times.
Analysts are expecting more bad news on Thursday. The report for October is forecast to show the economy sinking by another 0.1 percent, mainly due to lagging consumer confidence.
With rancor over the elections beginning to fade, the stock market is starting to make headway after many months in the doldrums.
Chicago investment manager Marc Borghans cites several reasons for placing bets on Wall Street, including the end of a so-called soft patch in the economy.
Best of all, stocks should enjoy seasonal gains, says Borghans, of LaSalle Bank Wealth Management Group.
"It is a little-known market secret that equities make virtually all of their annualized returns between October and May," he says in his latest letter to clients. "We believe that the odds are high that the seasonal pattern will play out again this year. In fact, we are entering the sweetest spot on the calendar."
