The Fed Charms Investors With Its Mixed Message
The Federal Reserve Board voted today to hold interest rates steady for the ninth consecutive month. And the stock market rejoiced–the Dow Jones industrial average was up more than 150 points in afternoon trading.
But as strange as it sounds, the Fed failed to give Wall Street what it really wanted–a signal that the central bank is ready to trim rates soon to ease market fears about the economy.
If anything, the Fed hinted that it's just as likely to hike rates later this year to fight inflation rather than cut rates to boost economic growth.
In its release announcing the decision, the Fed failed to express any concern about the slowing economy. Instead, the central bankers said "the economy seems likely to continue to expand at a moderate pace over coming quarters."
Yet since the end of February, all anyone on Wall Street can talk about is the economy. In fact, concerns over an economic slowdown have led to volatility not seen in nearly a year. Investors are particularly worried that the economy could slip into recession if problems in the so-called subprime mortgage market spill over into the broader economy.
But the Fed did not even mention the recent problems plaguing subprime lenders. The only comment it made about housing was that the "recent indicators have been mixed."
Instead, the Fed reiterated that "recent readings on core inflation have been somewhat elevated." And the central bankers noted–in surprisingly direct terms–that it is more concerned about inflation than a slowing economy.
According to the Fed, "the committee's predominant policy concern remains the risk that inflation will fail to moderate as expected."
So why did the markets react so positively? Partly, it was the bullish commentary on the economy, which emboldened some worried investors. And the Fed didn't overreact to the housing market's woes, which reassured Wall Street that the Fed will be patient.
Moreover, the Fed dropped some language that had been published in prior statements. Following earlier meetings, the Fed indicated that "additional firming" may be needed. In Fed speak, this means that the Fed might need to raise rates further. So the removal of that phrase was being interpreted as a bullish sign.
Still, if you read the rest of the statement, the Fed seemed rather hawkish when it comes to inflation.
What does this mean for investors?
It means they should brace themselves for further bumps in the stock market–even if those bumps take the market higher.
That's because the Fed does not appear likely to lower rates immediately to relieve worried investors.
advertisement
