Despite signs of strength in recent economic reports, economists remain convinced that the Federal Reserve will refrain from raising rates at its Open Market Committee meeting next month.
The Federal Reserve was cautious about reducing rates when the economy weakened last year, and it won't overreact now to unexpectedly strong sales of existing homes in March and a sharp rise in consumer confidence in the weekly ABC/Money Magazine survey, said Edward Yardeni, chief economist at Deutsche Morgan Grenfell/C.J. Lawrence Inc.
"The economy has been muddling along," Mr. Yardeni said, "and sometimes it looks like it's muddling to the upside. But the Fed has wisely resisted zigging every time the economy is zagging."
Often, signs of economic strength cause declines in the price of bonds and interest-sensitive financial stocks because traders fear the Fed will be forced to raise rates to head off inflation. But market reaction to last week's economic news was muted.
One bullish sign for the economy was a rise in existing-home sales, to an annual rate of 4.21 million in March, from 3.94 million the previous month. The 6.9% increase came when most economists had expected existing- home sales to be flat or to decline slightly because of higher mortgage rates.
The housing market is "clearly very solid," Mr. Yardeni said. "Existing- home sales are where they were two years ago. They're very strong in the Midwest and South, and now you're seeing strength in the West."
Generally, he said, the news has confirmed Fed Chairman Alan Greenspan's view that the weakness late last year was a mere "soft patch."
But Mr. Yardeni emphasized that not all economic indicators were positive. Although orders for durable goods rose 1.4% in March, most of the improvement could be attributed to an uptick in aircraft orders, he said.
Mr. Yardeni also argued that the Fed may not feel it must always act in order to achieve its economic goals because "the bond market has been doing its work for it.
"If the economy picks up, bond yields soar quickly, and that tightens conditions faster than the Fed could," he explained.
"Everyone thinks the Fed will stand pat" in May, agreed Sung Won Sohn, chief economist of Norwest Corp. But he said the Fed's course at its July meeting is "a more interesting question."
The Norwest economist said sales of automobiles, chain store sales, and personal income and consumption data have underscored the view that the economy has been growing faster than previously believed.
Mr. Sohn said the futures market for federal funds indicates an expectation that the Fed will raise short-term rates. But he argued that economic growth is likely to peak in the second quarter and that the Fed governors may decide to reduce rates by July.
"I wouldn't rule out the possibility of a cut," he said. "The economic growth in the second half of the year will be noticeably weaker than the second quarter."
Mr. Sohn estimated that the economy would grow at an annualized rate of 3% to 3.5% in the second quarter but that today's higher interest rates would take a toll after that.
"Our econometric model simulation shows economic growth will be hurt by an annual rate of 0.7% during the second half," he said, "because of the uptick in long-term interest rates."