Tide of Rhetoric Shifts Toward Higher Interest Rates
INTEREST rates may have hit their low-water mark.
In the future, short-term interest rates, which mainly effect corporate borrowers, may start floating up, buoyed by the Federal Reserve Board. And the tide also may be rising for long-term rates, which influence such investments as mortgages.
Interest rates moved up last week after Federal Reserve Board Chairman Alan Greenspan growled that short-term interest rates could not stay at current levels much longer. The reaction in the bond markets was decisive with some yields rising from 16-year lows. At the end of the week the short-term Federal Funds rate remained the same at 3 percent, with three-month Treasuries at 3.08 percent. Long-term rates, as reflected by the yield on the 30-year Treasury bill ended the week at 6.7 percent, a significan t increase.
The rising rates are prompting some economists to advise mortgage shoppers to take advantage of the current low rates. "There is no way anyone can offer substantial hope of lower long-term interest rates," says Lyle Gramley, a former Federal Reserve Board governor and now chief economist at the Mortgage Bankers Association in Washington. "There is no reason not to act now," adds David Hale, chief economist for Kemper Financial Services Inc. in Chicago.
The rising interest rates are the result of a commitment by the Federal Reserve Board to keep inflation down. "The Fed has made its priority very clear, officially and through speeches that its priority is to restore and maintain price stability," Mr. Gramley says.
Gramley says that the Fed is anticipating future inflationary trends. Although inflation is down, the Fed does not expect it to moderate further. "The next inflation move is up, it is only a question of when," Gramley says. He notes that the last time inflation began to spurt was when unemployment dropped below 7 percent. With the June unemployment rate at 7 percent, "we are entering the danger zone," he warns.
There is some evidence that corporate America thinks interest rates have hit bottom. Last week, two savvy companies, Coca Cola and Walt Disney floated 100-year bonds. The Coca Cola deal had a yield of 7.455 percent. Disney's bond had a slightly higher return since it could be redeemed by the company in 30 years.
ECONOMIST Paul Kasriel of Northern Trust Company in Chicago says that there is anecdotal evidence that banks, with healthier profits and improved capital positions, are stepping up their lending to corporations. Some of the loans, he notes, are said to be below the prime lending rate - the rate at which banks lend to their best customers.
"The increase in lending will be the key to whether we see a more normal rate of growth in the economy," says Mr. Kasriel, a former economist with the Chicago Federal Reserve Bank. With a more normal growth rate, Kasriel says that inflation will stop going down, which will cause the Fed to become less accommodative.
While economic growth may help decide the future direction of short-term rates, economists hold that long term rates will be influenced by the deficit reduction package put together by the Senate-House conferees. "Rates will go up if there is not a credible budget in place on time," Mr. Hale predicts. By the end of last week, the conferees had agreed on the bulk of the tax increases on individuals making $115,000 and up per year or couples making $140,000 and up per year. However, they were still discuss ing other issues, such as a gasoline tax and changes in entitlements. They are trying to find ways to reduce the budget deficit by $500 billion over five years.
There are still many economists who contend that the current rise in interest rates is temporary. Mickey Levy, chief financial economist for NationsBank, argues that the weak economy and low inflation rate, combined with a world recession, should result in interest rates racheting down. "Despite all the hoopla, Greenspan will not tighten in the near term," Mr. Levy says.
"I would advise Greenspan not to tighten," adds Robert Brusca, chief economist at Nikko Securities Company International Inc. in New York. Mr. Brusca, formerly an economist at the New York Federal Reserve Bank, bases his advice on the risk of a downturn in the economy early next year as the tax increases work their way through the economy. "The budget deal, and pending health care reform financing schemes, continue to be negatives the economy may not withstand in 1994," he predicts.