An interesting opinion piece from a US University of Maryland economist and emeritus business professor, Peter Morici, carried by Dow Jones Newswires (gated).
Says the Federal Open Market Committee (FOMC) should not cut the Fed Funds rate, “Fed policymakers appear to have lost touch with economic reality”.
Citing:
- federal deficit this year will be 6.7% of GDP … a lot more fiscal stimulus and it requires greater monetary restraint to keep inflation in check
- bond investors should require higher interest rates to offset the risks that Washington could inflate its way out of its large debt service burden
- inflation, while improved, remains significantly elevated
- inflation expectations … are hardly anchored at 2% … expected inflation at 3% to 4%. Higher inflation expectations reflect a loss in confidence that the Fed can adequately tame inflation or that the current cast of monetary and fiscal policymakers are prepared to do what it takes. Elevated inflation expectations put nominal r*, the observed interest rate that would neither slow the economy nor further accelerate inflation, at 5% to 6%
- Past battles with inflation would indicate that if the Fed lowered rates before reaching its 2% goal, inflation would accelerate again, and inflation expectations would rise further and harden
Bolding above is mine to paint a picture of where rates should be. Yikes, that’s not a cut all right.
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Just on that r* …
The term “R star” refers to the natural rate of interest, also known as the neutral interest rate.
- This is a theoretical concept representing the interest rate that neither stimulates nor restrains the economy when it is operating at full capacity and with stable inflation.
- The natural rate of interest is important for central banks because it helps them set their policy rates.
- If the policy rate is above r*, the policy is considered contractionary, which could slow economic growth and lower inflation.
- Conversely, if the policy rate is below r*, the policy is seen as expansionary, potentially boosting economic growth and raising inflation.
- Determining the actual value of r* is challenging as it cannot be observed directly. It must be estimated using economic models that consider various macroeconomic factors, such as productivity growth, demographics, and global economic conditions. These estimates can change over time due to shifts in these underlying factors.
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Not yet …
This article was written by Eamonn Sheridan at www.forexlive.com. Source