We expect the combination of solid economic growth and higher inflation risks to push the Fed to raise rates higher than is implied by prevailing bond yields.

We expect the Fed to focus on the risks to higher inflation caused by higher energy prices, supply-chain disruptions and the strain on resources resulting from the massive rescue, relief and rebuilding effort now underway.

Inflation for August was 0.1 per cent
a welcome reduction from the previous months. While increases in bus fares
and oil-related increases are likely to have a negative impact in September,
assuming we have no adverse weather events, food prices are likely to
fall as supply increases. The trend, therefore, should be for the inflation
rate to return to lower levels.This should have a positive effect on inflation
expectations.

If anything, this confirms the Fed's bias towards inflation rather than worrying about a slow down in growth. The Fed seems to have no worries about growth, as least as far as manufacturing is measured by ISM.

The signal is that if we have good growth in 2006 but no inflation, there is no need to raise rates. I would even say, one more hike (this year), but not necessarily at the next announcement.

We got a little bit less growth and a little bit more inflation.