NEW YORK – Bubbling inflation concerns will keep the Federal Reserve (search) in monetary policy tightening mode for several more months, according to a majority of Wall Street economists.
The poll, taken after a milder-than-expected decline in September U.S. employment, found 14 of the top Wall Street banks expect at least three more increases in short-term rates from the Fed, which would take the benchmark federal funds rate (search) to 4.5 percent or higher from 3.75 percent now.
Six of the banks surveyed expect only one or two more hikes, to 4.0 percent or 4.25 percent, but some were getting nervous about that call.
A barrage of hawkish comments from top Fed officials this week hammered home the message that the U.S. central bank is more worried about the risk of higher inflation becoming embedded in the economy than the risk of economic weakness.
"The message is pretty clear here: they are quite determined to keep going," said Goldman Sachs economist Jan Hatzius.
Some of the current sources of price pressures, such as the spike in energy prices in the wake of Hurricanes Katrina (search) and Rita, may well be temporary, but Fed officials have warned they could start to push expectations of future inflation higher.
"I think we're going to see a worsening in the inflation data and that's going to keep the Fed on a tightening track," said Deutsche Bank economist Carl Riccadonna.
The September payrolls report confirmed that, excluding the effects of Hurricane Katrina, the labor market was growing at a trend-like pace of nearly 200,000 jobs a month.
Both Deutsche Bank and Goldman Sachs expect the fed funds rate will peak at 5.0 percent next year, implying five more quarter percentage point rate hikes after the 11 the Fed has imposed so far since June 2004 to tighten the cost of credit.
"Inflation is going to continue to rise based on the disruption from the hurricanes, high oil prices (and) a factory sector that has a very strong outlook. Also, there's a lot of positive news coming out of Japan and East Asia so there's going to be a real scramble for raw materials and that will eventually pass through to consumer prices," Riccadonna said.
Dallas Fed President Richard Fisher (search) warned on Thursday that core inflation was edging closer to the upper end of the Fed's 1 percent to 2 percent "tolerance zone". His counterpart at the Philadelphia Fed, Anthony Santomero (search), said plainly the Fed will have to keep raising rates to keep temporary price pressures from permanently raising the inflation level.
Just such an increase in prices was announced by FedEx this week, when it raised air shipment rates by 3.5 percent, thus passing on higher fuel costs into a permanent price rise.
The Reuters survey found Wall Street analysts unanimous in expecting the Fed to move again on rates at its Nov. 1 policy meeting, which would be the 12th straight increase since June of last year. Views were split for December, with 13 anticipating a hike but eight predicting a holiday pause.
The economists who have been saying the central bank was close to finished with tightening are now hedging their bets.
"Without some acknowledgment that policy is no longer accommodative, or so long as the word "measured" shows up again in the press statement, then it's probably 'sayonara' to our 4.0 percent funds rate peak forecast," conceded one of Wall Street's erstwhile bears, David Rosenberg, chief economist at Merrill Lynch.
At issue is some of the Fed's own rhetoric, since officials have so far spoken only of restoring official rates to a "neutral" level that doesn't fuel or slow economic growth.
But the specter of higher inflation suggests tightening beyond a neutral level next year will be needed to tame price pressures.
Analysts said that shift could be signaled with a change in the formulaic statement the Fed has issued at every meeting saying policy is still "accommodative", or boosting growth.