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October 31, 2007
Does 3.9% GDP growth change anything?
In the very short run (like, say, the next couple hours), no. Wall St. Journal story on GDP here. The stock market, quite predictably, rallied a bit. However, it has not moved anyone seriously off of their expectations of a 25 b.p. rate cut. So, if your immediate thought was that this might buy the Fed a way out, I have to say that I don't think it's any easier. In a perfect world, expectations might have been more balanced coming into today and then this data could have tipped the balance towards doing nothing. I might wish that was the world we live in, but it's not. Felix Salmon has more.
On the fundamental question of what the Fed should do--taking everything, including expectations, into account--I'm left with the opinion that while it would be a courageous statement of principle to do nothing (and part of me really wishes they could), I think it might be too risky given the somewhat fragile state of the market. I'm really holding my nose as I say that because I don't like the idea of the Fed being pushed into doing something. But in some sense you also have to play the hand you are dealt...or the hand you dealt yourself... or something.
Commenter Kevin writes:
I think Ben's Fed has really tried to stay away from any commitments about the path of future policy moves. So I think your suggestion that they say that this will be the last cut is a nonstarter. However, what I do expect would be more guidance about the conditions for any changes - which may include taking back the rate cuts (imagine that!).
First, a clarification. When I made reference to them saying that this would be the last cut, I was using some verbal shorthand at the end of a long post (in a three part series!) Of course they will not say it in so many words. They can "say" it in their assessment of the risks to growth and inflation. It's easy to come up with some wording that would say that they are going to have a "neutral bias" (though that language is itself somewhat passé). Whether one could make that language credible is another matter.
So then what about some guidance about the conditions for any changes? Not yet, not in any formal way. That could potentially end up being part of the new communication strategy that the Fed is discussing. But not yet. And they are certainly not going to say anything today about when these cuts are going to be taken back. Not a chance. Personally, I'd like to see that guidance too. I think one could make a credible case that if 4th quarter GDP growth is above X and if average monthly job growth stays above Y and if core PCE stays below Z, then they could raise the funds rate in January or March. But they certainly aren't going to tell us X, Y, and Z (or whatever other indicators would come into play). And I really don't think you're even going to get much of a hint yet. I think the best we can hope for is a strongly worded statement that growth is stronger than anticipated, that the housing problems have not yet spilled over into the broader economy, and that the magnitude of that spillover may be less than anticipated. Furthermore, firms are getting squeezed by higher input prices. While that has not yet passed through to final goods prices, the weaker dollar is going to put more pressure on firms to raise prices. (Except that the Fed will not talk about the weaker dollar, but you get the idea.) Make it so we expect that at least 25 basis points will be taken back if this strength continues. That way, if the 4th quarter ends up being only slightly weaker, they could still get by with holding steady in December and January.
It's almost time.
Posted by William Polley at October 31, 2007 12:45 PM
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Comments
"Does 3.9% GDP growth change anything?"
This number is a HOAX -- they played with the "deflator" -- take a look at NOMINAL GDP throughout 2007.
Posted by: Edward Charles Ponzi Jr. at February 13, 2008 9:02 PM