John Hathaway: Smooth sailing ahead for gold


From The King Report
By Bill King
M. Ramsey King Securities Inc.
Wednesday, June 9, 2004

Yesterday stocks and bonds sank early on Easy Al's
most recent "double secret probation" innocuous
warning to the markets that he will raise rates if
inflation appears.Of course Al's talking apples and
oranges with CPI and inflation.

The CPI calculation has been altered something like
nine times in the past six years.

Al was speaking via telephone to bankers in Europe.
Perhaps Al was trying to negate an article in
yesterday's New York Times by Ed Andrews,
headlined "Fed Officials Seek to Ease Fears of a
Surge in Inflation." The article makes the case that
the Fed does NOT want to raise rates and needs
tame inflation as an excuse to keep interest rates
at "emergency levels."

* * *

Fed Officials Seek to Ease Fears
of a Surge in Inflation

By Edmund L. Andrews
The New York Times
Tuesday, June 8, 2004

WASHINGTON, June 6 -- Still hoping to go slow in raising
interest rates from their lowest levels since the late 1950s,
top officials at the Federal Reserve are trying to reassure
investors that inflation will remain tamer than many of them

In a series of recent speeches and comments, Fed officials
in Washington and around the country have argued at length
that neither the new rise in employment nor the recent
jumps in consumer prices mean that the economy is in
danger of overheating.

"The recent pickup in price increases probably does not
represent the leading edge of steadily worsening inflation,"
Donald L. Kohn, a Fed governor with close ties to Alan
Greenspan, the Fed chairman, declared in a speech here
on Friday.

In a point-by-point assessment of inflationary signals, Mr.
Kohn contended that most of the recent run-up in prices
stemmed from one-time factors. He suggested that the
surge in commodity prices, including oil, and a rebound
from particularly low inflation last year did not portend a
new trend and that recent events were still consistent
with "effective price stability."

Mr. Kohn is not alone among Fed insiders. At a time
when many investors and consumers have become
increasingly alarmed about a sustained rise in prices,
Mr. Greenspan and many other top officials have gone
out of their way to argue that inflation is likely to remain
under control for the foreseeable future.

The issue is important to Mr. Greenspan, who faces a
Senate confirmation hearing on Thursday for a fifth term
as Fed chairman. For if the best thinking at the Federal
Reserve turns out to be wrong, the Fed could be forced
to be considerably more aggressive as it embarks on
an expected series of rate increases beginning this
summer. By doing so, it might run the risk of financial
disruptions among institutional investors and heavily
indebted consumers.

Fed officials are keenly aware that they have much to
lose if their prediction is wrong. But while they have all
but announced their intention to start raising interest
rates at their meeting on June 30, they are still hoping
to move more slowly in the following months than they
have in past cycles of tightening monetary policy.

For a full year now, the benchmark federal funds rate
has been at 1 percent, the lowest since 1958. Many
analysts expect the Fed to start by raising rates no
more than a quarter-point each time it meets (and it
could occasionally skip a rate increase) in an effort
to gradually lift this key lending rate to somewhere
around 4 percent by the end of 2005.

But if some on Wall Street are right, the Fed may not
have that luxury and could be forced by subsequent
evidence of stronger-than-expected growth and higher
prices to engineer interest rate increases of half a
percentage point at one or more of the eight monetary
policy meetings it ordinarily holds each year.

Adjusted for inflation, the federal funds rate is well
below zero at a time when economic growth is above
4 percent a year and job creation is rising.

Hours before Mr. Kohn spoke on Friday, the Labor
Department reported that 248,000 jobs were added
in May and more than 900,000 since February. Other
indicators of economic growth -- retail sales, new
orders for capital goods and surveys showing that
company executives think they have more flexibility
to raise their prices -- all are running higher than
expected and suggest that the Fed has achieved
its goal of pulling the economy out of the doldrums.
Now the question is whether it has done its job too

Bond investors are worried. Prices on
inflation-protected Treasury securities have surged
in the last two months, and now reflect an
assumption that underlying inflation will rise to some
2.7 percent -- higher than the Fed's comfort zone of 1
percent to 2 percent -- in the next few years.

Mark Kiesel, executive vice president of Pimco, which
manages about $400 billion in fixed-income securities,
said that nominal economic growth, before subtracting
for inflation, is nearly 7 percent a year. By contrast,
the federal funds rate is 1 percent.

"That is just a huge gap," said Mr. Kiesel, who predicts
that inflation will climb to about 3 percent over the
next year.

But even as debate has broken out on Wall Street over
whether the Fed is behind the curve in reacting to
inflation fears, the central bankers themselves seem
unusually united in their opinions. Federal Reserve
governors, ensconced in a row of offices at
headquarters here along Constitution Avenue, often
clash in their views with the independent presidents
of Federal Reserve district banks around the country.
In this case, though, senior officials have so far
hewed closely to Mr. Greenspan's views.

"I agree with him on the fundamentals," William C.
Poole, president of the St. Louis Fed and a longtime
hawk on inflation, said in a recent interview.

Alfred Broaddus, president of the Federal Reserve
Bank of Richmond and another longtime worrier
about inflation pressures, has sided with Mr.
Greenspan as well.

"I am not dismissing the risk of an unwelcome
further increase in inflation," Mr. Broaddus told
bankers in Virginia last month. But, he continued,
most of the fundamental trends in productivity and
the evidence that factories and the labor markets
are still capable of tapping plenty of unused
capacity and talent favored an outlook for low
inflation. "I think the risk is manageable," he

Mr. Greenspan and many other Fed governors predict
that productivity will continue to climb rapidly,
allowing companies to turn out more goods without
adding workers and to make higher profits without
substantially raising prices.

In recent comments, Fed officials have argued that
rapid productivity growth will continue to dampen
inflationary pressures and that the economy still
has considerable "slack" in the form of unemployed
workers -- 2.6 million jobs were lost before the recent
rises began -- as well as unused factory capacity.

Another Fed governor, Ben S. Bernanke, said in a
recent speech, "In my own view, economic
developments over the next year are reasonably
likely to be consistent with a gradual adjustment
of policy."

Even if wages do start to climb as companies hire
more workers, Mr. Greenspan and other top Fed
officials argue that companies will initially absorb
higher costs rather than risk losing market share.

In his speech on Friday, Mr. Kohn said companies
had enjoyed such high profit margins from recent
productivity increases that they could easily
accommodate higher wages without raising their
own prices.

Far from being surprised about the recent rise in
employment, he said this had resolved the mystery
of why so few jobs were created last year. "This is
the last piece of the puzzle," Mr. Kohn remarked.
"Things are now making sense."


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