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Striking Out Inflation
Some exceptionally good news for the investor class and the economy.


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Larry Kudlow

Dick Fisher is the spanking new president of the Federal Reserve Bank of Dallas and a voting member of the Fed’s open market committee policy arm. A terribly bright guy, he is somebody who reads the research memos and looks at the data. He may be a Democrat — he served as deputy trade representative in the Clinton administration — but he’s my kind of Democrat. In short, he’s a pro-market, pro-business free-trader who doesn’t think profit is a dirty word.

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So when Fisher told CNBC that “We’re clearly in the eighth inning of a tightening cycle,” he wasn’t just tossing any old baseball analogy at the economy. He was saying he believes Fed monetary policy has done a good job at containing core inflation.

Listen to this pro call the game: “We have the ninth inning coming up at the end of June; we feel strongly we have been getting good, fast, hard pitches right down the pike.” Fisher was of course talking about Fed restraining moves, and he did add that “There is room to tighten a little bit further.” But he finally said that the Fed has “to get rates to a point where you have that stasis — neither stimulating inflation nor discouraging economic growth. We are not quite there yet — we are getting closer and as they say . . . stay tuned.”

The Fed has raised its target rate since June 2004 from 1 percent to 3 percent. Fisher seems to be implying that it would go to 3.25 percent and then hold there for at least several months. This is exceptionally good news for the investor class and the economy.

To be sure, Fisher is hardly speaking from left field. The indicators soundly back him up.

The oil-price shock has not spilled over into non-oil or non-energy price increases. The core consumer spending deflator (excluding food and oil) — Alan Greenspan’s favorite price measure — has been steady at only 1.6 percent growth over the past eight months.

What’s more, sensitive commodity and market-price indicators that tend to lead inflation have turned down with a vengeance. This includes gold, raw materials, and Treasury-bond rates. Meanwhile, the difference between long- and short-term interest rates, known as the slope of the Treasury yield curve, has narrowed substantially, though it still remains positive and normal. These are all signs that inflation is contained and well within the Fed’s target range.

Market price signals are forecasting continued economic expansion with low inflation. Exactly what Greenspan & Co. desire. In effect, the Fed has reigned in the money supply to curb inflation fears, while the supply-side tax cuts put in place two years ago continue to provide economic growth incentives.

The genius of the Bush tax plan was that it lowered the burden on capital investment — the seed corn for business expansion and job creation. The genius of the Greenspan Fed up to now has been its removal of post-9/11 excess money without throwing the economy into stagnation or recession. The combination of these two policy levers — lower taxes for growth and stable money for price stability — suggests that the current cycle of non-inflationary prosperity can last for many years.

Investors reacted joyously to Dick Fisher’s statement. The stock market rose by over 100 points and the bellwether 10-year Treasury bond rate dropped to 3.91 percent. Stocks are signaling future growth while bonds are anticipating low inflation.

Fisher may be only speaking for himself, but there’s more to it than that. While numerous mainstream economists are trying to belittle his remarks by suggesting he’s just a rookie in the big leagues, they have nothing to stand on but their mistaken forecasts that strong growth will create higher inflation and a big upturn in long-term interest rates. They’ve been dead wrong for years.

Growth never causes higher inflation, nor do people who work and prosper. Inflation is a monetary problem, and after a brief period of excess money creation, the Fed removed inflationary money. The lower Bush tax rates did their part by increasing the availability of goods and investments to absorb money supply and provide a counter to potentially inflationary developments.

It’s likely that Dick Fisher, who’s no gun-slinging hip-shooter, is reflecting a sub rosa buzz inside the Federal Reserve System. The buzz is that the Fed has succeeded in holding down inflation and that the tightening cycle is coming to an end.

It’s too early to expect a formal policy comment to this effect. But it’s clear there’s a considered view within the central bank that economic and inflationary conditions are far better than the predictably dour and declinist mainstream media would have us believe.

— Larry Kudlow, NRO’s Economics Editor, is host of CNBC’s Kudlow & Company and author of the daily web blog, Kudlow’s Money Politic$.



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