Instant Insight - Federal Reserve Still Worried About Inflation

[DailyFx]

The Federal Reserve left interest rates unchanged at 5.25 percent for the 12th consecutive month. Although recent economic data clearly indicates that the US economy is deteriorating, the statement confirms that the Federal Reserve is far more concerned about inflation than growth.

In fact, the Fed feels that even though there have been "adjustments" in the housing market, economic growth has been moderate and will continue to expand at a moderate pace in the coming quarters. This language is more hawkish than the May statement, where the Fed simply said that "economic growth has slowed." In terms of inflation, the Fed isn?t convinced that the battle has been won. Instead, they expect inflation to remain a problem. Now that oil prices are above $70 a barrel, gasoline prices could rise back above $3 a gallon. This would mean that consumers would face the burden of corn, dairy and gas prices. The US dollar has barely reacted because this was the only option the Federal Reserve really had. Toning down the statement was not a possibility because they would risk sending the Dow up 14,000. The current statement has done little to stem the rise in stocks, imagine what would happen if the Fed introduced the possibility of lowering interest rates.
There have been quite a few changes to the wording of the statement which has been characteristic of the new Fed Chairman Ben Bernanke. The takeaway point however remains the same.

Comparing the FOMC Statements

June 28, 2007
The Federal Open Market Committee decided today to keep its target for the federal funds rate at 5-1/4 percent.
Economic growth appears to have been moderate during the first half of this year, despite the ongoing adjustment in the housing sector. The economy seems likely to continue to expand at a moderate pace over coming quarters.
Readings on core inflation have improved modestly in recent months. However, a sustained moderation in inflation pressures has yet to be convincingly demonstrated. Moreover, the high level of resource utilization has the potential to sustain those pressures.
In these circumstances, the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected. Future policy adjustments will depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information.
May 9, 2007
The Federal Open Market Committee decided today to keep its target for the federal funds rate at 5-1/4 percent.
Economic growth slowed in the first part of this year and the adjustment in the housing sector is ongoing. Nevertheless, the economy seems likely to expand at a moderate pace over coming quarters.
Core inflation remains somewhat elevated. Although inflation pressures seem likely to moderate over time, the high level of resource utilization has the potential to sustain those pressures.
In these circumstances, the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected. Future policy adjustments will depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information.
By Kathy Lien, Chief Strategist of DailyFX.com