US investors cry for rate cut while Fed listens to economy

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WASHINGTON, Aug 16 (AFP): The financial markets, slammed by the US subprime mortgage sector crisis, are crying out for interest rate cuts but the Federal Reserve may be hearing different sounds from the economy.
On Wall Street, more and more investors are expecting the Fed to cut its key federal funds rate, which has been locked at 5.25 per cent for 13 months, at the next Federal Open Market Committee (FOMC) meeting, scheduled on September 18.
Some even hope the central bank will lower the rate before the next meeting, acting urgently as it had done in 2001 after the dot.com bubble suddenly burst.
For now, the Fed has preferred to inject tens of billions of dollars into the tight financial system through operations in its overnight federal funds market, a strategy that allows it to act in the very short term.
"Markets are fully priced for permanent cuts," said Stephen Gallagher, an economist at Societe Generale.
But recent data on the health of the US economy, such as an inflation report Wednesday, "make the Fed wary of cutting rates on the basis of financial market difficulties," he said.
The labour department said its consumer price index (CPI) rose a modest 0.1 per cent in July and the core index, excluding the volatile food and energy sectors, climbed 0.2 per cent.
Some saw signs of improvement in the report -- after all, the CPI was at its lowest level since November 2006.
"Inflation is not the beast that is devouring the economy," said Joel Naroff of Naroff Economic Advisers.
"Whether this report eases some of the FOMC members' fears is unclear, but it should," he added.
However, the Fed may choose to focus on the darker aspects of the inflation report.
The rolling quarterly data showed the CPI rose 2.5 per cent in the May-July period compared with a year ago, extending an upward trend in consumer prices.
"The pattern gives backbone to the Fed's continued insistence that a 'sustained moderation' in the inflationary environment may not yet have taken hold," said Kenneth Beauchemin, an analyst at Global Insight.
The Fed, whose comfort level with price rises is between one and two per cent, reiterated last week that inflation remains its greatest concern.
And in view of the latest figures, "inflation is still a problem," said Brian Wesbury of First Trust Advisors, predicting it would get much higher in the coming months.
Meanwhile, recent growth indicators show the world's biggest economy, although expanding more slowly, is still dynamic.
Retail sales rose more than expected in July thanks to robust spending across the board, except for the gasoline and automobile markets, a positive reading for an economy largely driven by consumer spending.
The trade deficit narrowed in June as exports surged to a record high, leading some analysts to forecast gross domestic product growth of more than four per cent in the second quarter.
The government's initial estimate was 3.4 per cent.
And the Fed announced Wednesday a 0.3 per cent rise in industrial production in July.