Economy posts more cautionary signs on inflation

OUTLOOK

Latest reports prompt expectation of bigger interest-rate increases

May 07, 2000|By Amanda J. Crawford

Three reports last week indicated the U.S. economy is continuing its strong growth despite five interest-rate boosts since June by the Federal Reserve.

The Index of Leading Economic Indicators, designed to predict economic activity three to six months ahead, rose 0.1 percent in March, after a 0.3 percent drop in February. A forecast from the National Association of Purchasing Management said the manufacturing industry will continue to prosper, with companies looking for a 5.9 percent increase in revenue over last year. And the Commerce Department reported that sales of new homes jumped 4.5 percent in March to their highest level in more than a year, despite a leap in mortgage rate. Analystsexpected a decline of 2 percent.

David Orr

Chief economist, First Union Corp., Charlotte, N.C.

Credit availability has remained ample despite the increase in the interest rate. Until lenders become more cautious about extending credit no matter what the price, the Fed's rate hikes won't have the impact people expect.

The only reason growth is potentially dangerous is because of the potential for price increases. Whether it's because of growth or the stock market or a change in consumer psychology, I think, yes, we are at an infection point. It's not that we are in a rampant inflation situation again, but people are gradually coming to accept price increases as a normal fact of life.

Most of us are nowhere near as cost-conscious or penny-pinching as we were three years ago. The best example is that gasoline prices went from 90 cents to $1.40 a gallon in my area and people bought even more SUVs.

It will take tightenings through this year in order to moderate growth. We now think the Fed will need to raise rates four more times - or 1 full percent point total - which would put the prime rate at 10 percent by the end of this year. Right now, it looks like there is a fairly good chance they will do a half-point move at their May 16 meeting.

Scott Brown

Chief economist, Raymond James & Associates Inc., St. Petersburg, Fla.

Long-term interest rates really haven't risen enough to slow the economy. We had a bit of increase toward the end of last year, but really not enough to seriously constrain the housing activity. As we go forward, we probably will see some restraint on housing, largely due to further Fed increases.

Even though the GDP number was less for the first quarter, most of the details indicated that demand actually strengthened. The fear is that demand will continue to outpace supply, which implies inflationary pressures.

Barring a sharp stock market correction, I think it is very likely the Fed will raise rates by 50 basis points at the May meeting.

Bryan Jordan

Economics analyst, Bank One Investment Advisors Corp., Columbus, Ohio.

The simple reason is consumer spending is so strong. Even though we have higher interest rates, a little bit higher rate of inflation and volatility in the stock market, we still have tremendous job growth, airtight labor markets and consumers still feel very secure in their jobs.

I think we are starting to see signs of overheating. There is no doubt that wages have accelerated. The cost of labor accounts for two-thirds of producing any good or service, so with wages going higher that is going to put some pressure on the inflation rate.

If you look back over the current tightening cycle, the Fed has been gradually raising short-term rates in the virtual absence of inflation. They were raising rates last year at a time when we had the lowest core inflation rate in 34 years.

Now we are continuing to see the strong growth they have been worried about all along, and even some signs that growth is accelerating. I think the Fed will abandon the gradual approach and hike the short-term rate by 50 basis points.

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