While Mortgage Markets Say Inflation Is Dead, The Federal Reserve Warns Otherwise

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This week is shaping up to be The English Patient -- slow and boring.

Not much news other than weak housing data.  Of course, markets are using the information to shore up the "Inflation is Dead" mentality that seems to settling over the markets.

Chicago Fed President Michael Moskow said in a prepared statement yesterday that "additional firming of policy" may be needed to lower inflationary pressures.

"We need to balance the benefits of gaining new information against the costs of waiting too long. If inflation stays stubbornly high while we wait to see the effects of earlier policy actions, inflation expectations could increase -- and that would be very costly."

The Fed has repeatedly told us all that it is "data dependent", meaning it can't make absolute decisions about the Fed Funds Rate and the economy until information becomes available.  The FOMC voting members walk a fine line between accelerating the economy, and grinding it to a halt.

Therein lies the subtlety in Moskow's remarks.

The Fed's job of managing the Fed Funds Rate is akin to shooting foul shots.  Most of us can shoot, wait a half-a-second, and see if our shot went in.  If we missed, we make adjustments and then shoot again.

The Federal Open Market Committee doesn't have that luxury.

The Fed has to wait nine months to see out if its "shot" went in.  And while they wait, they have to step to the line six more times to shoot (or not shoot) again.  It's nearly impossible to know if the shots are "on target" until it's too late.

Not all of the Fed Presidents are speaking publicly about inflation, but Michael Moskow is.  If inflation is present, mortgage rates will rise as markets make adjustments.

Source
Fed's Moskow: More rates increases may be needed
Reuters.com, August 24, 2006

http://today.reuters.com/news/articleinvesting.aspx?type=bondsNews&storyID=2006-08-22T170247Z_01_N21102525_RTRIDST_0_ECONOMY-FED-MOSKOW-URGENT.XML