If
the Federal Reserve raises interest rates on Thursday, it will be doing
so in an economy that is radically different from the past. The lack of
comparable economic terrain is one of the complications that Chair
Janet Yellen faces as her committee contemplates an exit from almost
seven years of near-zero interest rates.
Check out the accompanying graphic to see how the landscape has changed, with a focus on key indicators that the Fed uses to gauge the economy's momentum. For example, when the Federal Reserve last started to lift rates back in June 2004, inflation stood at 2.8 percent and 66 percent of the population was working or looking for a job. Today, those numbers stand at a feeble 0.3 percent and less than 63 percent, respectively.
The U.S. Federal Reserve is debating when to start a
cycle of interest rate hikes for the first time since 2004. Economic
conditions barely resemble the last time the Fed contemplated raising
rates, leaving policy makers without comparable experience to guide
their way as they try to shepherd the economy to stable growth.
The changed dynamics mean that instead of inflation-fighting as it has in the past, the Fed is getting ahead of price pressures and working to preempt asset bubbles after more than 6 years of easy money. Rather than operating in an economy where a broad-based labor market rebound is beginning to boost wages, low labor force participation and tepid pay gains have left policy makers scratching their heads over whether low unemployment -- just above 5 percent -- is under-representing slack. The U.S. is also more exposed to the global economy, which is growing less rapidly than in 2004.
The difference between then and now "matters hugely -- it raises the risk of a policy misstep relative to previous cycles, and I think it explains why the commentary has been so much about gradualism,'' said John Davies, U.S. rates strategist at Standard Chartered Bank in London, referring to the Fed's desire to tighten only slowly.
"It is going to be very much meeting to meeting, quarter to quarter," he said.
Still, by raising rates the Fed will signal that they still think traditional economic relationships hold and inflation will firm as unemployment falls. That means they still view the past as a guide, if a rough one, said Adam Posen, president of the Peterson Institute for International Economics.
"It may be that instead of driving a highway from Washington to New York, I'm driving secondary to roads from Washington to Baltimore, but I still have a map," Posen said. "If the Fed doesn't believe that some of these growth dynamics are the same as they used to be, then they shouldn't be considering raising.''
Check out the accompanying graphic to see how the landscape has changed, with a focus on key indicators that the Fed uses to gauge the economy's momentum. For example, when the Federal Reserve last started to lift rates back in June 2004, inflation stood at 2.8 percent and 66 percent of the population was working or looking for a job. Today, those numbers stand at a feeble 0.3 percent and less than 63 percent, respectively.
Hiking Without a Map
Federal funds target rate
Recessions
February 1994–February 1995 hiking cycle
June 2004–June 2006 hiking cycle
- ExpansionThe Fed has given the postrecession economy much more time to grow before signaling a rate hike.
- UnemploymentJoblessness is lower than in previous cycles, but economists no longer view it as a comprehensive gauge of slack after many discouraged Americans left the workforce.
- ParticipationThe share of people working or looking for work has fallen, suggesting there may still be weakness in the labor market.
- EarningsEarnings growth for production and nonsupervisory employees has been tepid.
- InflationThe Fed's gauge of overall inflation lags well below the desired target of 2 percent.
- Core InflationThis measure of inflation, which excludes food and fuel, is faring better than the broader measure but remains subdued.
- Exports as Share of GDPExports have become increasingly important as a share of U.S. output, making the U.S. more vulnerable to global downturns.
- IMF Global GrowthWorld growth is slower compared to the 2004 cycle, according to International Monetary Fund projections and estimates.
- GDP GrowthThe domestic economy is growing more slowly than it did in 2004.
The changed dynamics mean that instead of inflation-fighting as it has in the past, the Fed is getting ahead of price pressures and working to preempt asset bubbles after more than 6 years of easy money. Rather than operating in an economy where a broad-based labor market rebound is beginning to boost wages, low labor force participation and tepid pay gains have left policy makers scratching their heads over whether low unemployment -- just above 5 percent -- is under-representing slack. The U.S. is also more exposed to the global economy, which is growing less rapidly than in 2004.
The difference between then and now "matters hugely -- it raises the risk of a policy misstep relative to previous cycles, and I think it explains why the commentary has been so much about gradualism,'' said John Davies, U.S. rates strategist at Standard Chartered Bank in London, referring to the Fed's desire to tighten only slowly.
"It is going to be very much meeting to meeting, quarter to quarter," he said.
Still, by raising rates the Fed will signal that they still think traditional economic relationships hold and inflation will firm as unemployment falls. That means they still view the past as a guide, if a rough one, said Adam Posen, president of the Peterson Institute for International Economics.
"It may be that instead of driving a highway from Washington to New York, I'm driving secondary to roads from Washington to Baltimore, but I still have a map," Posen said. "If the Fed doesn't believe that some of these growth dynamics are the same as they used to be, then they shouldn't be considering raising.''
2 comments:
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