Greenspan keeps investors guessing on next rate moves

Jan 4 | Updated: Jan 5 2006, 05:30am hrs
Alan Greenspan, famous for his enigmatic statements as Federal Reserve chairman, is giving investors a new puzzle in his final month on the job: whether the Fed is almost done with interest rate increases or has several more to go.

Minutes of the Feds Dec. 13 meeting, released on Tuesday, said the number of additional rate increases probably would not be large. To Bill Gross, manager of the worlds biggest bond mutual fund, that means just one more increase. To Joseph LaVorgna, chief US fixed-income economist at Deutsche Bank Securities Inc. in New York, that means three more by June.

Greenspan, who retires Jan. 31, took interest rates off autopilot last month, suggesting the Fed may be close to stopping after 13 straight increases. The minutes reinforced that view, while acknowledging inflation remains a concern. The result: language that suits both sides of the debate.

The report did bolster investors expectations for the Fed to stop sooner rather than later, as stocks and US Treasury notes rose. The Fed lifted its benchmark interest rate to 4.25% last month, the highest in 4 1/2 years, from 1% in June 2004, the longest cycle of increases since Greenspan became chairman in 1987.

Reading the minutes carefully, I dont think it really changes my view or the markets view of where the Fed was, said David Kelly, an economic adviser to Putnam Investments in Boston, who is holding to his prediction that the Fed will stop at 4.5% in a close call.

None of the economic data since the last meeting of the Federal Open Market Committee would justify the Fed going to an actually restrictive stance by raising rates several more times, Kelly said in an interview.

Gross, chief investment officer of Pacific Investment Management Co. in Newport Beach, California, agreed. I think 4.5% does it, he said. What we are going to see in 2006 is a 2% economy that ultimately justifies lower fed funds rather than higher. The economy grew by 4.1% in the third quarter.

To other economists such as Stephen Stanley of RBS Greenwich Capital Markets in Greenwich, Connecticut, the central bank will be confronted by a robust economy that may stoke inflation fears.

We think the economy will grow stronger for longer than the market and the Fed do, Stanley said. We look for substantial further tightening to be required. Stanley expects the Feds rate to rise to 5.5%.

The dollar fell to a two-month low against the euro on Wednesday as investors anticipated a narrowing of the yield advantage on US assets that pushed the dollar up more than 14% against the euro and yen in 1005. The dollar weakened to $1.2062 per euro by 10:49 a.m. in London on Wednesday, from $1.2018 in New York on Tuesday.

The Feds statement after its Dec. 13 meeting tempered prospects for future increases by saying that only some further measured policy firming is likely to be needed.

Views differed on how much further tightening might be required, the FOMC said. Members thought that the policy outlook was becoming considerably less certain.

After Tuesdays report, traders pared bets the Fed would raise the overnight lending rate to 4.75% in March, based on the yield on federal funds futures contracts.

The odds of another quarter-point increase in March, assuming rates rise in January, fell to 52% from 60% on Dec. 30.

Were awfully close to the end of the game, Richard DeKaser, chief economist at National City Corp. in Cleveland, said in an interview. Theyve got another quarter point in them. Well see it later this month. Former Fed governor Lyle Gramley had a different take.