Economist Expect Rates at 4.5%

The Wall Street Journal reports that a survey of economists expects the Federal Reserve to raise interest rates to 4% by the end of the year, to 4.25% by the middle of next year and eventually to 4.5%. Goldman Sachs thinks that the Fed will go all the way to 5%.

Economists also expect the economy to grow by 4.2% this quarter and 3.6% next quarter. That’s really strong growth. But the real mystery is what will happen with interest rates, especially long-term rates.

While the Fed has been lifting short-term borrowing costs, longer-term interest rates, as measured by bond-market yields, have remained stubbornly low — a development that Fed chairman Alan Greenspan famously described as a “conundrum.” The problem is particularly vexing for what it might say about future economic conditions: as the spread between short- and long-term interest rates narrows, the prospect of an inverted yield curve – a phenomenon associated with recession — grows.
But few of the economists surveyed say economic weakness is responsible for the lack of movement in long-term rates. About 43% of the economists say the main reason long-term interest rates have stayed low is because inflation is expected to remain low. A number of others say that foreign central bank demand for U.S. debt, or an excess of saving in the global economy, has tamped down long-term bond yields.
“It was difficult to see what would cause the economy to perform as weakly as long term yields would suggest,” said Mr. Hooper. “It just didn’t make sense in terms of the economic fundamentals.”
Still, the economists don’t expect the yield on the 10-year Treasury note to increase by much. They predict, on average, that the yield will reach 4.67% by the end of this year and climb to 4.90% by next summer. The 10-year note finished trading Wednesday at 4.398%.

This is where I disagree. The yuan revaluation will have a larger impact than most people realize. Also, the Fed has never been able to manage a soft landing for interest rates. The market always gets away from them. Interest rates are going higher, and it’s not going to be pretty.

Posted by on August 12th, 2005 at 10:43 am


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