- The Washington Times - Wednesday, October 31, 2007


The Federal Reserve decision-makers have convened their latest meeting amid interesting times.

The dollar has reached its lowest level against the British pound in more than a quarter century and fallen more than 40 percent against the euro since early 2002. A plunging dollar generally causes the prices of imports to rise, allowing domestic producers of competing goods to raise their prices as well. This is one way inflationary cycles ignite. Another such cycle involves the price of oil, whose rapid escalation in the past precipitated two inflationary spirals (1973-75 and 1979-81) and preceded the onset of each of the past five recessions (1973-75, 1980, 1981-82, 1990-91 and 2001). The price of oil has just set a record. That is true not only in nominal terms ($93.53 per barrel) but in inflation-adjusted terms as well. Indeed, the price of oil has finally surpassed its previous inflation-adjusted record achieved in 1981, according to the Energy Information Administration.

Meanwhile, during the July 2006-June 2007 period, the economy expanded at a rate of less than 1.9 percent. (Economic growth during this year’s third quarter will be reported today.) Employment growth during the third quarter (292,000 nonfarm jobs) was less than half the 606,000 jobs created a year earlier. After the evolving meltdown in the mortgage market created havoc in other credit and financial markets, the second shoe is now dropping on the housing market. According to the S&P;/Case-Shiller Home Price Index, the decline in home prices accelerated in August. Housing prices, which declined 4.5 percent during the 12-month period ending in August, and are down 5.3 percent from their June 2006 peak. Goldman Sachs has been predicting that housing prices will fall another 15 percent, which would trim more than $3 trillion from the nation’s household real-estate wealth. Foreclosures are projected to soar well into next year.

In recent weeks, the markets for commercial paper, which businesses rely on to finance their operations, have frozen; and the value of all types of mortgage-backed securities bundled together in all kinds of packages has been in free fall.

These are just some of the highlights surrounding the Fed’s policy meeting, whose decision on the direction of short-term interest rates must balance the goals of price stability, optimal sustainable economic growth and moderate long-term interest rates. At the risk of sending the dollar further south and adding fuel to the simmering inflationary embers, the Fed will probably lower the overnight interest rate. It is a very tough call.

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