01.10.2007
Oil down, Trade up!
November’s trade deficit narrowed for the third consecutive month, giving us soft-landers a bit of a warm, cozy feeling. Looks now like the 2006:Q4 current-account deficit will narrow.
But it’s much too early to collect bets and issue I-told-you-so’s. The current-account deficit for 2006 is still likely to be a whopper, and outstanding foreign held claims on the United States will surely reach a new record.
The nominal deficit in goods and services trade was $58.2 million in November, down from $58.8 million in October and a peak of $68.5 million in August. In November, the United States posted a $6.5 million surplus in services trade and a $64.7 million deficit in goods trade. Much of the improvement in recent months reflects a decline in oil and other commodity prices. On a real basis—that is, on a constant price basis—the deficit in goods trade was flat in November, but has fallen on balance since January 2006.
Trade Balance: Goods and Services
Source: U.S. Department of Commerce, Bureau of the Census.
Although the current account deficit is likely to narrow in 2006:Q4, for the year as a whole the current account deficit is likely to exceed 6.6 percent of GDP—a record. This will push outstanding foreign held claims on the United States to around $3.5 trillion or 27 percent of GDP—another record. The current-account-sustainability issue is not going away soon. To read more, try here.
01.04.2007
Rate Hiking Versus Policy Firming
Did yesterday’s release of the minutes of the December meeting of the Federal Open Market Committee change anyone’s assessment of where the federal funds rate is headed? Our own estimates of market expectations (estimated from options on federal funds futures) say no, but the reaction in the broader markets – or at least the market-watchers’ interpretations of the reaction – say yes. From The Wall Street Journal Online (subscription required, emphasis in the original)…
The deal remains this: The Fed was still talking about raising interest rates last month because “price pressures were not yet viewed as convincingly on a downward trend.”…
The committee goes on about the “extent and timing” of higher rates to “address these risks,” but they’re still not talking about the possibility of lowering interest rates, which has come as a surprise to the equity market.
… and from the Financial Times:
US stocks surrendered a firm start to the new trading year on Wednesday after the Federal Reserve signalled there was little chance of an interest rate cut until core inflation moderates.
Those sound like very similar statements, and indeed they are. But there is actually a subtle, but important, difference: The Journal snippet refers to “higher rates,” the FT excerpt does not.
If you do a quick search of the most recent FOMC minutes, you will find no reference to higher federal funds rates. What you will find is this (emphasis added):
Members agreed that the statement should continue to convey that inflation risks remained of greatest concern and that additional policy firming was possible.
Is there really a distinction between the phrase “higher rates” and the phrase “policy firming”? I think the answer is “yes,” or at least “there could be.” In this Bank’s 2001 annual report, we described then-president Jerry Jordan’s position on the rate cuts of that year:
[The view that growth in measured monetary aggregates is not a useful guide to policy] make[s] it easy to forget, or to fail to appreciate, two essential facts. First, market interest rates—especially real (inflation-adjusted) rates—have a life of their own, independent of monetary policy. Second, when events conspire to move inflation-adjusted market rates, maintaining a given funds rate requires the Federal Reserve to alter the pace at which it injects liquidity into the economy. The latter observation means that when circumstances in the rest of the economy change, failing to move the funds rate is likely to alter the stance of monetary policy by default.
I want to make it clear that I am not attempting to suggest what any given member of the Committee might mean to convey with the phrase “policy firming.” What I am saying is that there is, in fact, an interpretation in which policy firming need only mean not moving the funds rate target, or even lowering it slowly. In that sense, market reactions driven by the belief that tight policy may be ahead may be fully consistent with the absence of change in the probabilities attached to future federal funds rate changes.