Overshoot? Behind the curve? Or just right? This time, will the Federal Reserve know how high to raise interest rates? TIE surveyed some leading Fed watchers to assess how the FOMC is doing.

• Position: Federal Open Market Committee

The Fed Will Overshoot the Mark ...

ROBERT D. HORMATS

Vice Chairman, Goldman Sachs

The Fed is likely to overshoot.

Perfection is difficult to achieve in setting Fed funds rates. It is even more difficult in the current environment when longer-term rates are influenced so heavily by foreign capital inflows, which keep long-term credit conditions looser than the Fed desires. Currently, the FOMC is more concerned about curbing inflationary pressures and expectations than dealing with a growth shortfall so it is likely err on the side of tightening rather than stopping too soon.

LARRY KUDLOW

Chief Executive Officer, Kudlow & Co., LLC, and Co-Host of CNBC's "Kudlow & Company"

It looks as if the Fed is still using a traditional Phillips curve tradeoff between falling unemployment and rising inflation. This is despite the fact that non-energy inflation has been holding steady at around 2 percent for ten months, and ten-year Treasury bond rates are low and stable and the yield curve is flattening. The dollar is strengthening. Though gold has been temporarily strong lately, probably from the oil spike, basically a financial and commodity market price role would suggest that the Fed is overshooting. In other words, on a price role basis, the weight of the evidence has been suggesting no need for additional tightening measures.

DAVID M. JONES

Chairman of the Board, Investors' Security Trust, and author of Unlocking the Secrets of the Fed

In all likelihood, the Greenspan Fed is in the process of overshooting in its effort to shift from an accommodative to a neutral policy stance.

The recent weakening in the stock market underscores this prospect. The Fed's press release from its September 20 meeting, following its eleventh rate hike in the last fifteen months, places primary emphasis on fighting "potential" inflation rather than focusing on the possibility of a pronounced slowing in economic growth. The Fed is failing to emphasize sufficiently the potential for the post-hurricane (Katrina and Rita) spike in energy prices to severely depress consumer spending.

Moreover, after seeing people lose everything in the hurricanes, consumers may be in the process of a longer-term upward adjustment in their record-low savings rate, thereby depressing consumer spending over a longer period. According to recent business surveys, there is also a deepening concern on the part of businesses that higher energy prices will have a negative effect on orders and production. In addition, as business profit margins are squeezed by higher energy costs, there could be a chilling effect on fixed-investment spending.

JAMES R. SCHLESINGER Senior Advisor, Lehman Brothers

We will overshoot. There is an inevitable lag or gap between recognizing the need to ease, and the easing taking effect.

WOLFGANG ROTH

Vice Chairman of the Board of Directors, European Investment Bank

Yes, they will overshoot.

H. ROBERT HELLER

Former member, Board of Governors of the Federal Reserve

The Fed stands poised to overshoot in the current cycle. While the Fed funds rate increased, long-term rates have decreased or remained stable. This is the classic constellation showing that the Fed has been "ahead of the curve." Now short rates are about to catch up with the longer rates and may even surpass them. Markets are giving clear signals that the Fed is overshooting in an environment of basic monetary and price stability. Not even Hurricane Katrina was able to stop the Fed in its determination to invert the yield curve.

RICH MILLER

Senior Writer, Business Week

The Fed has overshot for three reasons: First, history suggests they will. Even during the successful engineering of a soft landing of the economy in the mid-1990s, growth still slowed sharply to just 0.7 percent in the second quarter of 1995.

Second, the Fed's risk management approach suggests they should if they perceive a rising threat of inflation. And judging by their public and private comments, they do see an inflationary risk.

And finally, internal Fed dynamics will push them in that direction. Chairman Greenspan wants to end his career with his reputation as an inflation fighter intact. And his successor will want to establish his

ALAN REYNOLDS

Senior Fellow, Cato...