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Prime Rate

also known as the Fed, National, U.S. and WSJ Prime Rate

Wednesday, June 14, 2006

The Numbers In Today's CPI Report Virtually Guarantee That Another Prime Rate Increase Is Coming On June 29

Earlier today, the U.S. Department of Labor's Bureau of Labor Statistics released the Consumer Price Index (CPI) numbers for May, 2006. The CPI, a closely-watched measure of inflation, rose by 0.4% in May, which was what Wall Street forecasters were expecting. However, when food and fuel are factored out of the equation, consumer prices rose by 0.3% in May, while Wall Street forecasters were expecting 0.2%.

What do these numbers mean? Bottom line: right now, inflation is a problem. And when you factor in today's CPI numbers, yesterday's Producer Price numbers, and the fact that many U.S. central bankers recently have expressed concerns about inflation, you've got yourself a recipe for Fed action. You can bet your bottom dollar that the Federal Open Market Committee (FOMC) will elect to raise interest rates on June 29. Furthermore, the vast majority of private-sector economists and university academics agree that the Fed will boost interest rates by a quarter point at the end of this month.

Here's some more evidence that inflation is a problem: for the last 3 months, core inflation has been at levels not seen since 1995, and yesterday, Dallas Federal Reserve Bank President Richard Fisher joined the chorus of central bankers who've expressed concern about the current inflationary outlook for the country.

100% Chance that The Prime Rate Will Rise to 8.25% on June 29

According to current pricing on Federal Funds Futures contracts, the odds that the FOMC will vote to raise the benchmark Fed Funds Target Rate on June 29 are now at a confident 100%. Prior to today's CPI report, odds were at about 90%.

If the FOMC votes to raise the Fed Funds Target Rate by 25 basis points on June 29, then the national Prime Rate (Wall Street JournalĀ® Prime Rate) will rise from the current 8.00%, to 8.25%.

Prime Rate Prediction for August 8, 2006

The 4TH FOMC monetary policy meeting for 2006 is scheduled for June 28-29, and, as summarized above, the Prime Rate will most likely rise to 8.25% when the June meeting adjourns.

The 5TH FOMC monetary policy meeting for 2006 is scheduled for August 8, and current pricing on Federal Funds Futures contracts indicate that traders have odds at around 54% that the FOMC will elect to raise the Fed Funds Target Rate to 5.50% at the August meeting. A Fed Funds Target Rate of 5.50% would, of course, translate to a national Prime Rate of 8.50%, because:

The U.S. Prime Rate = (The Fed Funds Target Rate + 3)

If you don't like the long-winded details, then here's a simple summary of the latest Prime Rate predictions:

  • Current odds that the Prime Rate will rise
    to 8.25% on June 29, 2006: 100%

  • Current odds that the Prime Rate will rise
    to 8.50% on August 8, 2006: 54%

The odds related to Fed Funds Futures contracts--widely accepted as the best predictor of where the FOMC will take the benchmark Fed Funds Target Rate--are constantly changing, so stay tuned to this blog for the latest odds.



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