Inflation Concerns Expressed at Fed Meeting

Minutes of the May 3 meeting of the Federal Reserve Board's Federal Open Market Committee were released Tuesday, and the tone indicated broad concern among participants about what the text referred to as "creeping" signs of inflation and, more importantly, expectations of it building into the economy. Although Fed Chairman Alan Greenspan has been quoted as saying that he favors watching inflation measures that exclude the volatile price changes in food and energy, the language in the minutes seemed to indicate that oil prices were on the minds of those in attendance.

The language in the minutes, traditionally very formal and requiring some interpretation, seemed to indicate that at least some policy controllers at the Fed favor backing down from assurances often given over the past year-and-a-half that Fed rate increases would be "measured" to allow the economy to adapt to a higher domestic interest rate environment.

Dark Wraith CyberGloss

The term "forward looking language (or statements)" means wording, either explicit or implicit, indicating or projecting future actions or events. In corporate finance, it is a formal concept that is even set forth in securities regulations.

 Although there was uniform agreement to continue for the time being to use forward-looking wording in statements issued by the Fed, the minutes went on to note that this current policy of assurances about future Fed aggressiveness in fighting inflation could be dropped if "... either a pause or a step-up in policy" was needed at a later date. Although the sentence containing that phrase included the possibility of a pause in interest rate hikes, few anticipate that the Fed has any intentions of backing down from its fight against inflation, particularly since other wording in the minutes, as noted above, pointed to concerns about inflation not only accelerating, but also embedding itself in the economy. Analysts considered this a first warning shot from the central bank that its current policy of steady, quarter-point increases in key short-term interest rates might have to be abandoned some time in the months ahead.

In other news, stocks fell modestly on Wednesday, partly on concerns about oil prices holding above the $51 level, and partly on vague concerns about the possibility that the Fed may become more hawkish on inflation as the Summer wears on. In early trading Thursday morning, stocks were generally higher, bouyed by an official government report revising the first quarter GDP growth from its initial estimate of 3.1 percent to 3.5 percent.

Dark Wraith CyberGloss

GDP can be considered the sum of consumption, private investment, government spending, and net exports (exports minus imports). Thus, as net exports rise, GDP rises; and as net exports fall, GDP falls, too.

  The upward revision was due almost entirely to final calculations of the trade deficit, which narrowed somewhat more than the earlier estimate had shown. This closing of the trade deficit was an effect of the historically very weak dollar, which made U.S. exports cheaper overseas and foreign imports more expensive on the shelves here in the U.S. However, as the Federal Reserve continues to push interest rates upward, the U.S. dollar will become stronger again, as it has since the first quarter, and this will cause foreign imports to once again become cheaper, thereby widening the U.S. trade deficit, thus depressing domestic economic growth.

As some economists had pointed out, allowing the dollar to become almost Third World weak would boost GDP by stimulating foreign purchases of cheaper American goods. Although the Bush Administration had said that it supported a strong dollar, it did nothing to turn the weak dollar situation around, and it is clear now that the Administration benefited from that cheap greenback in terms of a strong GDP showing in the first quarter of this year. The longer-term challenge to the White House, though, is to be able to sustain economic growth without relying on currency exchange rates to do the work of keeping the economy from slipping into a recession induced by the twin forces of tight monetary policy and corrosive federal budget deficits both driving interest rates upward, thereby suppressing domestic economic activity of both businesses and households.