The Federal Reserve has restrained inflation expectations, and as a result long rates have descended even while short rates have moved higher. That?s a nice piece of work. Along with rising jobs and incomes, low mortgage rates will sustain the strong expansion in housing investment.
Meanwhile, the strengthening dollar, along with softer commodity prices, also suggests a benign outlook for future inflation. It looks like Fed restraining moves have broken the fever of commodity speculation, which probably means real estate prices will begin cooling soon.
The 91-day Treasury bill is currently yielding 2.93 percent on a coupon-equivalent basis. This is below the 3 percent fed funds target rate, and suggests the central bank could hold steady. However, the Fed is likely to raise its target once more by 25 basis points to 3.25 percent. The 10-year Treasury could dip below 4 percent, but at least the yield curve would remain positive. All this suggests a somewhat slower economy in the year ahead, but no real damage and certainly no recession.
Actually, we are looking at non-inflationary prosperity for several more years to come. This is a good stock market scenario where the broad indices still look to be 20 to 25 percent undervalued. In policy terms the Fed has done its job by restraining inflation and President Bush?s supply-side tax cuts have reignited economic growth. The results are unmistakably positive.