In a widely anticipated speech to the Italian American Club on November 28th, the Federal Reserve Chairman offered his current views on the U.S. economy, and there were no surprises: the housing sector continues to slow, but other areas of the economy remain solid, while labor markets continue to tighten. Contrary to the econo-bears and Treasury-bulls out there, we do not see these realities as the precursors to an imminent Fed easing. Unless or until policy makers’ preferred indicators and measures of inflation show clear signs of monetary tightness — which requires more than just a slowing rate of inflation — we’ll avoid taking the increasingly popular bet that rate cuts are on the table for early 2007.
On a related note, the Cleveland Fed’s Median CPI for October was released on November 16th, and while the headline CPI from the Bureau of Labor Statistics has been showing a steady decline in recent months, both the median CPI and core CPI are running above the professed comfort zone of ~2% touted by inflation targeters like Bernanke. In fact, on a year-over-year basis, the median CPI has risen by at least ten basis points in each month since May:
Again, this is not the stuff of an imminent Fed easing in our view. While over the same period, other ‘noisier’ measures of inflation have shown signs of easing, thanks in part to a steep decline in energy prices, this has only lulled the Treasury market into a false sense of security in our opinion.
On a positive note, other than the Treasury and housing markets, most of the data we’re seeing supports our assessment — and the closely parallel outlook offered by Bernanke — that global real output continues to expand at a healthy clip, corporate profitability remains high, and wages (finally) appear to be capturing a greater share of the wealth.