The prospect of a summer interest rate hike by the Federal Reserve seems to be fading.
Economists now believe the economy probably expanded at a mild 2% annual rate during the second quarter, down sharply from its 5.8% pace in the first quarter. Meanwhile, inflation remains dormant.
Only a strong resumption of consumer activity would prompt the central bank to act, most observers think.
Firm evidence of any such upturn has yet to surface.
Recently, the bond market has rallied and rates have eased on signs of a moderation in business conditions.
Although things could change, this hardly seems to herald a rate increase at the next meeting of the Federal Open Market Committee, scheduled for Aug. 19.
But in fact, there is much puzzlement about the outlook for the economy.
"Vigorous job growth without inflation remains the story for the U.S. economy, thereby allowing the Fed to keep policy unchanged for some period to come," said Charles Lieberman, chief economist at Chase Securities Inc. "How long can this continue?"
Mr. Lieberman could offer no answer to his own question but summed up the conundrum:
"Since the economy appears to have deviated significantly from theoretical models-tight labor markets normally imply rising labor costs and higher inflation-it's difficult to have any confidence about when the good news will end, or any conviction that it will continue.
"That undoubtedly leaves the Fed uncertain, as are most economists, but makes any change in monetary policy difficult to justify," he said. As a result, the risk of Fed action has now been shifted to the fourth quarter of the year "and possibly beyond."
Bruce Steinberg, chief economist at Merrill Lynch & Co., said, "Even if the Fed tightens again later this year, it may unwind that tightening next year." His reasoning: The nation's real inflation rate is about 1%, and no pickup is in sight.
Mr. Steinberg acknowledged that some pickup in consumer spending from the slack pace of the last three months is likely. "But we just don't see consumers bingeing again, as they did in the winter," he said.
Even the principal inflationary concern-higher employment costs-appears to have subsided.
"Despite near-hysterical warnings by some economists that labor markets are too tight and that wage inflation will soon move higher and boost price inflation, wages were only up 3.5% in June from a year ago," noted Edward Yardeni, chief economist at Deutsche Morgan Grenfell Inc.
He pointed out that the Fed's own June roundup of business conditions, which it calls the Beige Book, said that most Fed "districts reported little or no wage pressure or noted that pressures were confined to a few markets."
And at least one veteran observer thinks the Fed's next rate move will be down rather than up. Irwin Kellner, the former New York bank economist who now has his own consulting firm, said he thinks that could happen by yearend.
The reason is that real interest rates-rates after inflation-are historically high.
He noted that producer prices actually fell during the first six months of this year.
The last time that happened, 45 years ago, the long-term government bond rate was 2.5%. Today it is around 6.6%.
