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Volume 7, Issue 20
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Volume 8, Issue 6 |
March 22, 2010
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The Federal Reserve/Monetary Policy
· In the policy statement following its March 16 meeting, the Fed
slightly upgraded its assessment of the economy and repeated that it
expects a moderate economic recovery, subdued inflation, and
"exceptionally low levels of the federal funds rate for an extended
period." As planned, the Fed expects to complete its mortgage market
support on March 31 and its remaining special liquidity facilities
by June 30. One member continued to dissent because he felt the
expectation of a prolonged low fed funds rate "... could lead to the
buildup of financial imbalances and increase risks to longer-run
macroeconomic and financial stability." At any time, the Fed could
raise the discount rate another 0.25%. This would re-establish a
pre-crisis rate relationship that would signal a continued return to
normal in financial markets rather than a change in monetary policy.
· Monetary policy appears stimulative based on a negligible fed
funds rate, an unprecedented jump in Federal Reserve credit and Fed
direct support of credit markets. However, a decline in bank loans
is the steepest since the Great Depression and very rapid money
growth in 2009 has unwound. Given the economic trauma of the past
two years, there is even more uncertainty that usual about the
timing and impact of Fed actions on economic activity.
· The Administration nominated three people to fill vacancies on the
Fed Board. One, Janet Yellen, is a veteran Fed dove, but not out of
the policy mainstream.
· The Federal deficit, which was a postwar record 9.9% of GDP last
year, is likely to be an even higher 10.5% of GDP this year. The
longer run outlook is bleak. Even with large tax increases, the
President's budget projects that publicly held federal debt will
rise from 53% of GDP in 2009 to 90% of GDP in 2020. With a moderate
interest rate assumption, federal interest expense would eat up an
expanding share of the federal budget and would triple from 1.4% of
GDP in 2010 to 4.1% in 2020. The catalyst for change could
eventually be rising interest rates/credit crunch.
· Regarding long-run growth, the combination of big federal
deficits, rising marginal tax rates, and greater government
regulation of and intervention in markets, is troubling. However,
during the Great Recession and early recovery, economic growth
potential has held up as corporations improved efficiency,
especially labor productivity.
The Economy/Inflation
· The Index of Leading Economic Indicators rose for the 11th
consecutive month in February, meaning the economic recovery is very
likely to continue. Aggregate dollar demand (nominal/current dollar
GDP) should rise 4% in 2010 and 5% in 2011 vs. -1.3% in 2009. Real
GDP should rise 3% to 3.5% this year and next vs. a -2.4% in 2009.
The recovery is being led by business investment in inventory and
equipment, exports, housing and Federal government purchases.
Consumer spending has lagged and commercial construction has dropped
sharply.
· Core consumer inflation-more a lagging economic indicator-is
running a little below the Fed's presumed comfort zone of 1.5% to
2%. The 10-year inflation rate forecast implied in Treasury
inflation-protected bonds (TIPs) yields was a moderate 2.22% at
Friday's close.
Financial Markets
· Fundamentally, the Fed's monetary policy should remain supportive
of markets for a few more months, i.e. negligible short-term
interest rates will keep investors seeking higher yields in stocks,
bonds, and commodities.
· Sustaining the economic recovery will likely require stock market
strength. Stocks appear fairly valued vs. Baa corporate bonds (Stock
Market Barometer). Based on forecasted 2010 earnings (subject to
considerable forecast error), the price/earnings ratio for the S&P
500 at Friday close was 15 versus a 19 average over the past 22
years.
· Despite their strong advance, stocks will likely outperform
Treasury bonds and cash in the year ahead, but the strongest part of
the rally - fueled by the easing of monetary policy and the related
drop in high-yield bond yields - has very likely already occurred.
Stock markets obviously embody more risk following the stunning 71%
gain in the S&P and 81% surge in foreign stocks in the past year.
· The bond market rally is probably over, but the economic recovery
is not likely to be strong enough to push long rates up strongly
this year. However, there is some risk that large federal deficits
will push up rates more than expected.
· Credit quality bond yield spreads are in their historical normal
range (Bond Market Barometer). Treasury bonds may slightly
under-perform other bond sectors as Treasury bond supply rises to
fund the large federal deficit.
· Mortgage rates remain historically low. Rates may adjust up some
when the Fed ends its mortgaged-backed purchases at the end of this
month.
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Economics Today is a monthly e-mail service provided by
Reliance Trust Company.
Main office: 1100 Abernathy Road, 500 Northpark, Suite 400, Atlanta, GA
30328 |
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Economic Outlook
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Qtr. 4 |
Q1 |
Q2 |
Q3 |
Q4 |
2008 |
2009 |
2010 |
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5.9 |
2.2 |
3.5 |
3.2 |
3.6 |
0.4 |
-2.4 |
3.2 |
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2.3 |
1.5 |
1.4 |
1.5 |
1.4 |
3.3 |
0.2 |
1.8 |
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1.6 |
1.4 |
1.3 |
1.4 |
1.5 |
2.4 |
1.5 |
1.4 |
|
3.47 |
3.71 |
3.9 |
4.1 |
4.25 |
3.67 |
3.26 |
3.99 |
|
0.15 |
0.13 |
0.15 |
0.15 |
0.5 |
1.98 |
0.18 |
0.23 |
|
17.37 |
17.15 |
18.85 |
20.25 |
21.05 |
49.51 |
57.07 |
77.3 |
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n/a |
69.6 |
36.5 |
28.3 |
21.2 |
-40 |
15.3 |
35.4 |
|
5.66 |
5.85 |
6.05 |
6.15 |
6.35 |
28.38 |
22.41 |
24.4 |
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-20.8 |
-1.8 |
11.2 |
15 |
12.2 |
2.3 |
-21 |
8.9 |
|
1083.3 |
1118 |
1200 |
1235 |
1265 |
1221.3 |
944.8 |
1204.5 |
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18.8 |
38.4 |
34.5 |
24 |
16.8 |
-17.3 |
-22.6 |
27.5 |
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Real GDP, % annual rate |
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Inflation, PCE % an. rate |
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Core inflation (ex food&energy) |
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10 Year Treasury bond (%) |
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Fed funds rate (%) |
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S&P 500 operating earnings($s) |
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S&P 500 op. earn. Yr/Yr % chg. |
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S&P 500 dividends ($s) |
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S&P 500 div Yr/Yr % chg. |
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S&P 500 Index (average) |
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S&P 500 Index, Yr/Yr % chg. |
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Economic and Financial Data |
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Disclaimer
The material herein is based on data
from sources considered to be reliable,
but it is not guaranteed as to accuracy,
does not purport to be complete and is
subject to change without notice. It is
not to be construed as a representation
by us or as an offer or the solicitation
of an offer to sell or buy any security.
Any opinions expressed are subject to
change. From time to time, this firm,
its affiliates, and/or its individual
officers and/or members of their
families may have a position in the
subject securities which may be
consistent with or contrary to the
recommendations contained herein; and
may make purchases and/or sales of those
securities in the open market or
otherwise. This communication is for
informational purposes only. Use by
other than intended recipients is
prohibited. Sender accepts no liability
for any errors or omissions arising as a
result of transmission. Any comments or
statements made herein do not
necessarily reflect those of Reliance
Financial Corporation or its affiliates.
Securities and Insurance Products offered through Reliance Securities, LLC. Member FINRA/SIPC.
Not FDIC Insured * No Bank Guarantee * May Lose Value *
Not a Deposit * Not Insured by any Federal Government Agency.
Arnie Dill, Ph.D.
Consulting Economist
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