- The Washington Times - Wednesday, February 22, 2006

At the January 30-31 meeting of the Federal Reserve’s interest-rate policymaking committee, the Fed raised its short-term target interest rate by a quarter-percentage point to 4.5 percent. It was the 14th consecutive time since June 2004 that the Fed raised short-term rates. As the Fed indicated in its Jan. 31 press release and as subsequent developments have confirmed, future interest-rate increases are likely. Noting that “possible increases in resource utilization as well as elevated energy prices have the potential to add to inflation pressures,” the Fed’s Jan. 31 press release declared that “the Committee judges that some further policy firming may be needed.”

Three days later, the Labor Department reported that the unemployment rate had declined to 4.7 percent, its lowest level since 2001. On Valentine’s Day, the Commerce Department reported that retail sales in January surged 2.3 percent, the highest monthly gain since automakers raised incentives to extraordinary levels during the month after September 11. The Fed reported on Feb. 15 that the manufacturing sector turned in a strong performance in January.

In mid-February hearings on Capitol Hill, newly confirmed Fed Chairman Ben Bernanke reported that the “economy now appears to be operating at a relatively high level of resource utilization.” Brandishing his anti-inflation credentials, he warned about risks on the horizon: “[W]ith aggregate demand exhibiting considerable momentum, output could overshoot its sustainable path, leading ultimately — in the absence of countervailing monetary policy action — to further upward pressure on inflation.” Mr. Bernanke then emphatically declared that he concurred with the Fed’s Jan. 31 judgment, which was delivered the day before he became chairman, that “some further firming of monetary policy may be necessary.”

Private-sector economists recently have been busy upgrading their projections for real (i.e., inflation-adjusted) growth in the first quarter. On the heels of January’s expansive retail and manufacturing performances, forecasters are now projecting growth above 5 percent and as high as 6 percent for the January-March period. That would represent a significant acceleration from the Katrina-related pause in the fourth quarter, when economic growth slowed to an annualized rate of 1.1 percent.

The Fed’s central-tendency forecast calls for growth of 3.5 percent during 2006 and between 3 and 3.5 percent for 2007. During both years, the Fed expects the unemployment rate to hover between 4.75 and 5 percent. Meanwhile, the Labor Department reported Wednesday that consumer prices increased by 0.7 percent in January, largely in response to energy prices rising 5 percent.

Economic growth now is evidently advancing considerably faster than the Fed’s forecast for the year and well above what Mr. Bernanke considers to be the economy’s “sustainable potential.” Mr. Bernanke is understandably determined to prevent rising energy prices from “pass[ing] through into the prices of non-energy goods and services or hav[ing] a persistent effect on inflation expectations.” As a result, short-term rates appear likely to rise another half-percentage point before the Fed considers ending its tightening cycle.

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