At the conclusion of a lunch at the British embassy here in Washington, Britain’s ambassador, Sir Peter Westmacott, asked each of the four scribbler-economists he had invited to give his forecasts for the year. I usually decline to participate in this sport, but after hearing the unoptimistic views of the other guests, I found myself offering to buy lunch for Sir Peter and his other guests if the U.S. economy is not growing at a rate of at least 3 percent by the end of this year. After a recent, brief tour of the country—St. Louis, Houston (fastest growing job market), Phoenix (fourth fastest)—and chats with builders, retailers and business leaders in those cities and elsewhere, I sufficiently overcame my aversion to forecasting to make a safe, although hardly risk-free bet.
Federal Reserve Board chairman Ben Bernanke and his monetary policy committee’s decision to run the printing presses is having the desired “wealth effect.” Unless the job market improves markedly, taking the unemployment down from 7.5 percent to 6.5 percent without a further increase in the number of workers too discouraged to remain in the work force, Bernanke will hold steady-as-she-goes, purchasing $85 billion per month in bonds to keep interest rates close to zero. If the economy gains steam, the Fed will dial back the speed of its money printing, and if the economy slows too much the dial will be twisted back to full-speed ahead. Whether the Fed’s dials are connected to the real economy, or merely tools to satisfy the Fed’s belief in its power and skill, is an open question. The possibility that hubris precedes nemesis rarely troubles Fed chairmen.
Despite some doubts about the ability of the Fed to fine-tune monetary policy, share and house prices are rising, people are feeling richer—the wealth effect—and purchasing homes and cars. Sales of homes are at their highest level in more than three years and permits issued to build new houses are at a five-year high. Gasoline prices are down, sales of profit-producing small trucks that construction workers favor are up, U.S. carmakers are cancelling traditional seasonal plant shutdowns, and Ford plans an almost 10 percent expansion of its North American capacity. Score one for the Fed chairman and his colleagues, some of whom would like to cut bond purchases now, but in the end go along with the chairman.
So, conclude Fed watchers, the Fed will be “data driven,” dialing up and down depending on the pace of improvement in the job market and the economy. John Maynard Keynes once remarked that if you want to predict the winner of a beauty contest don’t try to decide which contestant is the prettiest: guess which woman the judges will deem the prettiest. So with the data—we now have to guess how the Fed will view each new bit of economic news, regardless of how we view it.
Here are two clues to how the Fed sees things.
· Last week’s hint of a “taper” in bond purchases caused share prices to drop—the plunge in the Nikkei helped. That is not what the Fed wants to see right now, as it is depending on a continued wealth effect to offset the fiscal tightening produced by a falling deficit.
· Bernanke, although hinting that he will consider slowing the rate of purchases at upcoming meetings, is holding to his position that only a “sustainable” strengthening of the job market will cause him to dial down, or taper. Sustainability can only be determined by a forecast, and our ability to forecast the economy is at best questionable.
Fed-watching remains an obsession with some in interest-rate sensitive industries (finance, housing, autos). But Washington-watching is no longer the national sport. It is my impression—that should be distinguished from a fact—that businessmen and consumers no longer pay much attention to their federal government when it comes to conducting their economic lives. For several reasons:
· The budget deficit is dropping, due to the combination of tax increases imposed to avoid the fiscal cliff and spending reductions best known as the sequester.
· The Republican House of Representatives won’t let the president step up spending or raise taxes, and the president won’t let the House lower taxes. Stasis.