The Hoover Institution’s Melvyn Krauss, in an op-ed in today’s Wall Street Journal ($),notes some recent events that indicate that markets are no longer buying Greenspan’s messages on the economy. For instance,
- Most of the growth in the second quarter GDP figures was due to non-recurring war revenue and thus masks persisting structural problems with the economy.
- The Treasury department recently had trouble auctioning three-year Treasury notes as investors demanded a larger risk premium--a practically unheard of occurrence. Things like that are supposed to happen to Enron, WorldCom, and the State of California. If the market believed the Fed does not plan on raising interest rates for the indefinite future, then the Treasury notes would be an attractive investment on the secondary markets.
- Finally, fed-funds futures contracts have forecast rate hikes of as much as 75 basis points for May 2004. This is another indication that the market is not buying all the deflation talk. Or as Krauss puts it, “This type of extreme volatility in the fed-funds futures contract is rare. The Pied Piper is playing his tune, but the market simply refuses to follow.”
Postscript: Ros Krasny at Reuters notes that “March 2004 fed funds futures now place almost 90 percent odds on a rate increase by the end of March, although most economists consider that event unlikely.” And Justin Lahart at CNN.com argues that given the Fed’s ineffectiveness, “investors are having a very hard time trusting anything it has to say.”
