Stocks Stumble In Rate-Hike's Wake

While U.S. stocks were able to hold onto gains Tuesday, they followed overseas markets into a sump Wednesday in reaction to the Fed's decision to raise U.S. interest rates by .5 percent.

By 1 p.m. ET Wednesday, the Dow Jones indusrial average was at 10805.21, down 129.36 or 1.18 percent. The tech-heavy Nasdaq composite index lost 82.94 to 3,634.63 in the same period.

Investors apparently reassessed their reaction to the Fed decision, particularly the comments that indicate more hikes ahead, and began to take their profits now.

In contrast, the Dow rose 126.79 points to 10,934.57 Tuesday, and the Nasdaq composite index added 3652.36 down 65.21.

The lower opening reflects European worries over higher rates. At midday in London , the Financial Times-Stock Exchange 100-Share Index of blue chip stocks was down 95.5 points at 6222.9.

In Tokyo, the benchmark 225-issue Nikkei Stock Average closed 147.22 points lower, or 0.84 percent, to 17,551.25. On Tuesday, the average rose 237.57 points, or by 1.4 percent.

Share prices started out higher amid relief after Wall Street took in stride the increases in U.S. interest rates announced Tuesday. But follow-through buying in Tokyo was less than some market watchers had expected, encouraging short-term investors to start taking profits during the afternoon session.

In a move to control inflation, the Federal Reserve raised its target for the federal funds rate - the interest that banks charge each other on overnight loans - from 6 percent to a nine-year high of 6.50 percent.

Tuesday's action marked the sixth time the Fed boosted interest rates since last June. But it was a more aggressive approach. The five other increases were by a quarter point. The Fed's decision immediately triggered a half-point rise in banks' prime rates in the United States.

Members of the Fed and its chairman, Alan Greenspan, are concerned that the economy is growing too fast, which could spark inflation down the road.

Higher interest rates slow economic activity by making i more expensive for consumers and businesses to borrow money.

In a statement explaining its decision, the Fed said the rapidly growing economy "could foster inflationary imbalances that would undermine the economy's outstanding performance."

That pessimistic prediction came despite news that consumer prices, after rising sharply for two straight months, held steady in April as energy prices posted their first decline in almost a year.

The 0.1 percent increase in the Consumer Price Index, the most closely watched inflation gauge, followed increases of 0.5 percent and 0.7 percent in February and March, respectively, the Labor Department said Tuesday.

April's performance was right on target with many analysts' expectations. The last time the CPI was unchanged was in June.

But while inflation was almost invisible in April, there’s evidence that price hikes may be ahead. Oil, after falling to $24 a barrel last month, is now back near $30 a barrel, which foretells the return of higher gas prices.

"As the water has moved from tepid to warm, nobody's being burned by this inflation yet. But by the time we are burned it's too late," said Swonk.

And although the most recent inflation figures were low, America’s booming economy, which grew at a sizzling rate of 5.4 percent in the first three months of 2000, has pushed the nation's unemployment rate below 4 percent for the first time in 30 years.

"The expansion won't end. We just now have growth with a price," Swonk said. ”And that price, I believe, will be slightly higher inflation and slightly higher interest rates."

There are already signs of overheating in the grocery aisle. Nabisco, the makers of Oreo cookies and Ritz crackers, announced a 2 percent price hike this week to cover higher costs.

Economists view such developments as signs that demand for workers is having trouble keeping up with supply, sowing the seeds of inflation when employers raise wages to attract scarce workers.

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