Fed Pushes Short-Term Rates Up While Manufacturing Sector Weakest in Two Years
There had been some concern that the Fed would begin to deal with the threat of inflation more aggressively by pushing short-term rates up by a half of a percent rather than a quarter of a percent;
but with growing evidence of sharp weakening in key sectors of the economy, the Federal Reserve elected not to hit the economy with an unusually hard blow. The latest increase in the federal funds rateone of two key rates the Fed setsnow puts it at 3.00%. The Federal Open Market Committee, the rate-setting arm of the Fed, meets periodically to decide what monetary policy to pursue and how aggressively to pursue it.
Dark Wraith CyberGlossThe "discount rate" is the rate at which the Federal Reserve would lend money to a bank. The Fed changes this rate to signal capital markets about its standing monetary policy.
Because long-term rates embed short-term rates, in addition to other factors, the latest increases by the Fed will ultimately translate into higher rates on all borrowing by businesses, consumers, and even local, state, and federal government. Although the private capital markets ultimately set yields on debt instruments, the rates set by the Fed are strongly correlated with what ultimately becomes of those yields in the open markets.
Dark Wraith CyberGlossThe "federal funds rate" is the interest rate at which banks may lend money to one another.
Worries by many about the U.S. economy were further fueled on Monday as the Institute of Supply Management released it index for April activity in the manufacturing sector. This "manufacturing index" is a relatively broad measure of the level of business activity in the manufacturing sector. The index's level in a given month and changes in it from month to month indicate the health of this huge, critical component of the industrial economy.
While analysts had expected the index to hold at a reading of 55, instead it fell to 53.3, pointing to a weakening of the production side of the U.S. economy. Behind the raw number was evidence that manufacturers were attempting last month to pull back inventories, which other indicators have shown are rising as final demand weakens. Among other concerns about the slide in this number, as it approaches the critical value of 50, new jobs in the manufacturing sector may become fewer and farther between as manufacturers need less labor to fill orders.
Dark Wraith CyberGlossA manufacturing index value greater than 50 indicates that the sector is growing; a value below 50 means the sector is contracting.
After a string of strong up days for the stock markets, Tuesday was almost eerily quiet on Wall Street as investors had little reaction to what they had already expected from the Fed. There was little else to motivate large-scale buying and selling activity, either. That may change in the later part of the week as markets have an opportunity to chew on a few shards of economic data being released and investors have a chance to review a bid for a five percent stake in General Motors by the Kerkorian Group.
All eyes, however, will remain focused on numbers later this month for the producer and consumer price indices. With the Federal Reserve still pushing rates up by only a quarter of a percent at a time, it is signaling that it does not perceive inflation as becoming more of a threat than previously thought. In this regard, two hours after the Fed yesterday had released its traditional statement about what it had done to rates and why it had taken those actions, it rereleased the statement with one additional sentence stating that it believed long-term inflation expectations remain "well-contained." Although not without precedent, the unusual step of amending a public statement seems to indicate that the Governors of the Fed want to assure markets for the time being that there will be no surprising rate hikes for the foreseeable future. This should allay some concerns of investors, whose recent worries have translated into rather sharp swings in stock prices. But even with the run of good days recently on Wall Street, the general trend in stock prices has still been downward, with the Dow Industrial Average flirting perilously close to the 10,000 point mark, and the NASDAQ already well below the 2000 point level.