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Name That Tune

Does the orchestra follow the maestro, or does the maestro follow the orchestra?

Everybody thinks it is the former -- and so, with a wave of its baton, the Federal Open Market Committee last week dispelled the notion that recent signs of economic weakness will dissuade it from raising its federal-funds target rate through the end of the year.

But, if anything, the Fed's view of the world seems to take its cue from the crowd. The Fed has characterized the recent slowdown as a short-lived "soft patch." So, too, did the bulk of the economists in's most recent survey.

The Fed thinks that once energy prices drop spending will revive, which is another view widely shared among economists.

It is hardly the first time the Fed has appeared to hew to the consensus. Merrill Lynch chief strategist Rich Bernstein has pointed out that in late 1996, when Alan Greenspan complained about "irrational exuberance," Wall Street strategists were recommending that portfolios contain less than 50% of stocks. Once the bubble really got going, however, Mr. Greenspan began talking about the New Economy.

Meantime, Dresdner Kleinwort Benson strategist Albert Edwards notes that the year-over-year change in the fed-funds rate tends to follow analysts' optimism on earnings. In other words, when analysts' bullishness crests -- as it recently has -- it is only a matter of time before the Fed takes its hand off the brake.

Alas, earnings optimism isn't the only thing that has crested. The Economic Cycle Research Institute's Weekly Leading Index -- a compendium of economic data which signaled the recent slowdown before most economists saw it coming -- came in flat versus its one-year average last week. It was the index's worst showing since March 2003.

That isn't an indication that the economy is heading into recession, according to ECRI research director Anirvan Banerji, but it does make the renewed acceleration in growth the Fed and so many economists expect later in 2004 seem unlikely.

"This is no 'soft patch,' " he said. "It's broad, it's persistent and we see no signs of an uptick."

But while a drop in the ECRI's index has, like analysts' optimism, tended to signal a more dovish interest-rate policy, Mr. Banerji thinks that this time the Fed may not follow. The ECRI also puts together a leading indicator on inflation, and it is still elevated. Mr. Greenspan may find himself in the uncomfortable and unpopular position of fighting inflation amid sluggish growth.