Tag Archives: GDP

Re: exports and the $

Posted on by

On Jan 28, 2008 4:26 PM, Mike wrote:
> bottom line if trade deficit shrinks via export strength that has to be
> extremely dollar bullish-which has all sorts of implications (both of
> you are saying the same thing in that respect)…

sort of. it is shrinking as they are puking $ financial assets to
people who will take them to buy our stuff. so the dollar doesn’t go
up until they use up some of their $ assets and slow down their desire
to get out of them. think of it as an inventory liquidation of $
assets held abroad that drives the dollar down far enough to be able
to sell their $ to someone who wants to buy US goods and services or
US assets.

that’s the exit channel for $ held by non residents. for the US the
process is inflationary and expansionary- good for earnings and gdp.
But the inflation keeps the US domestic real consumption lower than
otherwise.

When the ‘$ inventory liquidation’ by foreigners starts to slow the $
starts to bounce back.

warren

♥

Share

Caterpillar report – what export economies look like

Posted on by

Caterpillar Sees ‘Definite Threat’ of US Recession

(CNBC)Caterpillar’s fourth-quarter earnings rose more than 10 percent, helped by strong sales to mining, energy and construction customers outside the United States, but the company warned it sees a recession as a “definite threat” to the U.S. economy.

The Peoria, Ill. company, which is often seen as an economic indicator, said it has been seeing “anemic growth” in the U.S. economy.

Total GDP is domestic demand plus export demand. They are seeing weak growth in domestic demand and strong export demand. And that’s exactly what has been keeping US GDP relatively high and more than making up for the lost output in the housing sector. So far.

“Over time, weakness in the economy has spread from housing to nonresidential construction and more recently to employment and manufacturing,” Caterpillar said in a press release announcing its results. “A recession is defined as a broad downturn in the economy, a development that seems to be taking place.”

However, Caterpillar predicted that fast-growing sales overseas would permit it to meet its 2008 sales and earnings forecasts even if a recession does materialize.

Exactly the same point.

The company continues to expect earnings per share will rise between 5 percent and 15 percent from its 2007 profit of $5.37 a share, while revenue will grow between 5 percent and 10 percent from $45 billion.

Caterpillar predicted 2008 would be another tough year for the U.S. residential housing market — a key customer for its earth-moving machines — and predicted “recessionary conditions to persist” in other key markets.

It said it expected housing starts to decline to 1.1 million units, down from 1.35 million in 2007, and said new problems would roil the property market, including “a high level of mortgage resets, an increase in home repossessions and the likelihood of a significant decrease in home prices.”

They must be watching CNBC.

Overall, Caterpillar is expecting North America to be its weakest growth region this year, but sales should be flat to slightly higher than a year ago.

Flat to slightly higher domestic demand with rising exports isn’t what a recession looks like.

♥

Share

2008-01-25 Balance of Risks Update

Posted on by

Mainstream economics would put it this way:

  • Inflation risk to long term growth vs short term growth risks

So on the inflation side:

  • CPI year over year up to 4.1%
  • Core CPI 2.4% year over year, 2.9% month over month (2.5% high end of Fed’s comfort zone)
  • Headline PCE deflator 3.6% year over year, core PCE 2.2% (1.9% upper band of their target forecast)
  • PPI up 6.3% year over year, core up 2.0% year over year
  • Crude back to $91 after a brief hiatus (‘high eighties’- relax, only attempt at a pun)
  • CRB testing new highs
  • Grains near the highs
  • Import prices up 10.9% year over year, ex petro up 2.9%, reversing years of pre 2003 declines
  • Export prices up 6.0% year over year
  • Prices paid/received remain on the rise in the various surveys
  • $US index reasonably flat, but other currencies experience domestic inflation
  • Not that anyone cares, but gold is at $913
  • 5 year, 5 years forward implied CPI at 2.51%, vs 2.43% at December 18 meeting

And on the growth side:

  • Housing reports remain weak through the winter months – permits still falling
  • November construction spending up 0.1%
  • Mortgage applications moving higher, 4 week moving average down 2.7% year over year, up 8.5% from November 2006 lows
  • November income and spending (1.1%) came out strong, Oct revised up (0.2% to 0.4%), after December 18 meeting
  • November durable goods on the weak side; December out on Tuesday
  • ADP up 40,000, payrolls up 18,000, unemployment up to 5% from 4.7%
  • Initial claims since meeting: 357K, 334K, 322K, 302K, 301K. Possible seasonal issues but no obvious weakness
  • Continuing claims since meeting: 2,754,000; 2,688,000; 2,747,000; 2,672,000. Still a bit higher than before, but not moving up.. yet
  • November trade gap out to 63.1 billion. December numbers released February 14
  • Fiscal balance: Receipts up 5.7%, spending up 8.8% (with labor day distortion) fiscal year over year
  • December vehicle sales 16.3 million, flat since August
  • December retail sales down 0.4%, core up 0.1% month over month, year over year up 3.2%, core up 3.0%
  • December industrial production flat, up 1.5% year over year
  • GDP and ADP at the meeting, payroll forecast up 65,000 on Friday
  • Fed cut 0.75% coincident with the Soc Gen liquidation related equity weakness
  • February Fed Funds futures now at 3.09%, not fully discounting a 50 cut. Got all the way to 3.15 before stocks sold off.

Market functioning:

  • LIBOR vs Fed Funds under control, 3 month LIBOR down 160 bp since December 18 meeting, TAF functioning well
  • Mortgage spreads still historically wide, but trading, and absolute yields also down since Dec 18 meeting
  • Mtg refi’s way up

Fiscal package is on its way!

♥

Share

2008-01-21 Update

Posted on by

Major themes intact:

  • weak economy
  • higher prices

Weakness:

US demand soft but supported by exports.

US export strength resulting from non resident ‘desires’ to reduce the rate of accumulation of $US net financial assets. This driving force is ideologically entrenched and not likely to reverse in the next several months.

In previous posts, I suggested the world is ‘leveraged’ to the US demand for $700 billion per year in net imports, as determined by the non resident desire to accumulate 700 billion in $US net financial assets.

US net imports were something over 2% of rest of world GDP, and the investment to support that demand as it grew was probably worth another 1% or more of world GDP.

The shift from an increasing to decreasing US trade deficit is a negative demand shock to rest of world economies.

This comes at a time when most nations have decreasing government budget deficits as a percent of their GDP, also reducing demand.

The shift away from the rest of world accumulation of $US financial assets should continue. Much of it came from foreign CB’s. And now, with Tsy Sec Paulson threatening to call any CB that buys $US a ‘currency manipulator’, it is unlikely the desire to accumulate $US financial assets will reverse sufficiently to stop the increase in US exports. I’m sure, for example, Japan would already have bought $US in substantial size if not for the US ‘weak dollar’ policy.

All else equal, increasing exports is a decrease in the standard of living (exports are a real cost, imports a benefit), so Americans will be continuing to work but consuming less, as higher prices slow incomes, and output goes to non residents.

I also expect a quick fiscal package that will add about 1% to US GDP for a few quarters, further supporting a ‘muddling through’ of US GDP.

Additional fiscal proposals will be coming forward and likely to be passed by Congress. It’s an election year and Congress doesn’t connect fiscal policy with inflation, and the Fed probably doesn’t either, as they consider it strictly a monetary phenomena as a point of rhetoric.

Higher Prices:

Higher prices world wide are coming from both increased competition for resources and imperfect competition in the production and distribution of crude oil. In particular, the Saudis, and maybe the Russians as well, are acting as swing producer. They simply set price and let output adjust to demand conditions.

So the question is how high they will set price. President Bush recently visited the Saudis asking for lower prices, and perhaps the recent drop in prices can be attributed to those meetings. But the current dip in prices may also be speculators reducing positions, which creates short term dips in price, which the Saudis slowly follow down with their posted prices to disguise the fact they are price setters, before resuming their price hikes.

At current prices, Saudi production has actually been slowly increasing, indicating demand is firm at current prices and the Saudis are free to continue raising them as long as desired.

The current US fiscal proposals are designed to help people pay the higher energy prices, further supporting demand for Saudi oil.

They may also be realizing that if they spend their increased income on US goods and services, US GDP is sustained and real terms of trade shift towards the oil producers.

Conclusion:

  • The real economy muddling through
  • Inflation pressures continuing

A word on the financial sector’s continuing interruptions:

With floating exchange rates and countercyclical tax structures we won’t see the old fixed exchange rate types of real sector collapses.

The Eurozone banking sector is the exception, and remains vulnerable to systemic failure, as they don’t have credible deposit insurance in place, and, in fact, the one institution that can readily ‘write the check’ (the ECB) is specifically prohibited by treaty from doing so.

Today, in most major economies, fiscal balances move to substantial, demand supporting deficits with an increase in unemployment of only a few percentage points. Note the US is already proactively adding 1% to the budget deficit with unemployment rising only 0.3% at the last initial observation in December. In fact, fiscal relaxation is being undertaken to relieve financial sector stress, and not stress in the real economy.

Food and energy have had near triple digit increases over the last year or so. Even if they level off, or fall modestly, the cost pressures will continue to move through the economy for several quarters, and can keep core inflation prices above Fed comfort zones for a considerable period of time.

Fiscal measures to support GDP will add to the perception of inflationary pressures.

The popular press is starting to discuss how inflation is hurting working people. For example, I just saw Glen Beck note that with inflation at 4.1% for 07 real wages fell for the first time in a long time, and he proclaimed inflation the bigger fundamental threat than the weakening economy.

I also discussed the mortgage market with a small but national mortgage banker. He’s down 50% year over year, but said the absolute declines leveled off in October, including California. He also pointed out one of my old trade ideas is back – when discounts on pools become excessive to current market rates, buy discounted pools of mortgages and then pay mortgage bankers enough of that discount to be able refinance the individual loans at below market rates.

♥

Share

The fix is in – strong growth for 2008?

Posted on by

We have gone from the jobless recovery to the full employment recession.

Recap of prospects for strong GDP in 2008 – details/support covered in previous posts:

  • Government spending has been moved forward and is now kicking in.
  • Exports accelerating, sustainable, and keeping personal income growing.
  • Business inventories are very low.
  • Fiscal package to be high multiple.
  • Short term interest rates will be kept low enough to keep mortgage resets from being disruptive in Q1.
  • Asian stocks overnight rebound and US stocks rebounding as well – PEs looking unsustainable low.
  • Housing too low for further declines to subtract from growth – can only add if it rebounds as I expect it will.

♥

Share

Why I expect US exports to continue to be very strong..

Posted on by

The desire to accumulate $US financial assets has been diminished for at least the following reasons:

  1. Treasury policy – Paulson is actively pushing both a strong yuan and threatening any other CB that buys $US with the label of ‘currency manipulator.’ CB’s had been perhaps the largest source of $US financial assets accumulation and are now limited to compounding of interest.
  2. US foreign policy is probably driving CB’s in less than friendly nations to diversify their reserves away from $US financial assets.
  3. Fed policy has the appearance of a ‘beggar thy neighbor’/’inflate your way out of debt’ policy, as the Fed aggressively cuts rates in the face of inflation not seen in 25 years.

This all sets in motion a downward pricing of the $US as non residents sell them to each other at lower and lower prices in this effort to lower their rate of accumulation of $US financial assets. But these financial assets can only ‘go away’ when they get spent or invested in the US, when US prices are low enough to cause this to happen. The rapid rise in exports and accelerated non resident buying of US real estate and other assets is anecdotal evidence this is taking place as theory predicts.

This is a very large cyclical force that should continue to drive rapidly rising exports for perhaps a year or more. Weak foreign economies should have little effect on this process, as that weakness doesn’t reduce the desire of portfolio managers to shift out of $US financial assets.

This is also highly inflationary for the US. This buying by non residents both drives down the $US and drives up the prices of US exports, now rising at a 7% clip last I checked.

The desired shift is probably well over $1 trillion which means exports will increase by a good part of that to facilitate this transfer.

This can sustain US GDP in the face of falling domestic demand, which will stay relatively low until housing picks up. Employment will remain reasonably good, but standards of living fall as we produce as much, but export more and consume less. We get paid to work but can buy less due to high prices, with our remaining production exported to those wishing to reduce their accumulated $US financial assets.

We’ve been talking about this possibility about a long time, but seems our trade negotiators have finally got their wish.

Meanwhile, Saudis continue to act the swing producer. In fact, they told Bush today they have 2 million bpd capacity in reserve, and that markets are well supplied. At their price, of course.

Probably have been some year end allocations out of crude by pension funds as with the price hikes they would need to sell some to keep the same ‘weight’ in their portfolios. That should be ending soon.

And I agree with Karim, the Fed is not likely to act on inflation until core starts to rise or their measures of inflation expectations start to rise, despite the fact that mainstream theory clearly says if any of that happens it’s too late. Seems to me the senior FOMC members are putting their jobs on the line by taking that kind of systemic risk, which their own theory tells them is far higher than the risk of any lost output from a .

♥

Share

No recession, yet..

Posted on by

real-gdp.gif

  • No Recession, yet..

new-home-sales.gif

  • Demand drop of 1% of GDP began over a year ago when home buying by subprime borrowers ceased..

current-account-balance.gif

  • And exports picked up the slack.
    And with housing as low as it is, further reductions, if any, will have minimal macro effects.
  • Losses not that large so far, only about $100 billion in write offs have been announced and with at least some prospects of recovery.
    Far less than the 1998 (inflation adjusted) losses, for example, when $100 billion was lost in just the first day when Russia defaulted August 17 with no prospects of recovery.
  • Financial sector looses are not direct reductions of aggregate demand, just the ‘rearranging of financial assets.’
  • Falling demand due to supply side credit issues and capital constraints are primarily fixed exchange rate phenomena and are rare and brief with floating exchange rate policy and a non convertible currency.
    Even in Japan with a floating exchange rate, when most bank capital was lost, credit expansion was a function of demand, while with fixed exchange rates, supply side issues dominated – Argentina, Russia, Mexico, the US in the 30s (gold standard), and the panic of 1907 Governor Mishkin referenced in his speech.

government-spending-trailing-twelve-months.gif

  • Government spending has been ‘moved forward’ from 2007 to 2008. Friday reported up over 8% year over year (NOTE: graph not updated for this last data point.)
  • Alt minimum tax capped helps demand some in 2008.

personal-spending-personal-income.gif

  • Personal income and spending not falling.
  • No econometric evidence of a significant ‘wealth effect’ from asset prices on the way up or on the way down. Income is better correlated.
  • Government employees and pensioners got GPI pay increases. This ‘half’ of the demand side keeps growing at 5% + nominal rates so to go into recession, the other half has to go down more than that.

government-revenue-trailing-twelve-months.gif

  • Government tax receipts still rising.

initial-continuing-claims-4-wk-mvg-avg.gif

  • Jobless claims remain too low for a recession.

labor-participation-rate.gif

  • Labor force participation rate climbing even as demographics suggest natural drift lower.

cpi-core-cpi-pce-price-index-core-pce.gif

export-prices-crb-index.gif

iron-steel-scrap-prices.gif

  • World and domestic demand is strong enough to support elevating prices of food, energy, and rising US imports and export prices.

♥

Share

3 mo libor down to 4.44%

Posted on by

3 mo libor is now for all practical purposes is ‘under control’ and down about 50 bp since the last Fed meeting.

Market function risk seems to be behind us, and the talk has now shifted to weakness due to softer demand.

The question is what level of demand is consistent with ‘price stability’.

In other words, to not exceed potential non inflationary GDP (the Fed’s speed limit) demand has to be low enough to not continuously drive up food/fuel/import prices.

♥

Share

Inflation – clear and present danger?

Posted on by

Food, fuel, and $/import prices present a triple negative supply shock.

Now gold pushing $900 as LIBOR falls, commercial paper issuance increases, and ‘market function risk’ subsides.

Downside risks to GDP are still not trivial.

Consumer income and desire to spend it may be problematic, and banks and other lenders may further tighten borrowing requirements.

And weaker overseas demand may cool US exports.

Yes, the Fed knows and fears demand MAY weaken, and forecasts lower inflation as a consequence.

But inflation is the clear and present danger, vs an economy that may weaken further

And mainstream economic theory says the cost of bringing down inflation once the inflation cat is out of the bag is far higher than
any near term loss of output incurred in keeping inflation low in the first place.

And the Fed addresses its dual mandate of low inflation and low unemployment with mainstream theory that concludes low inflation is a necessary condition for optimal employment and growth over the long term.

♥

Share

The subprime mess

Posted on by

On Jan 5, 2008 9:40 PM, Steve Martyak wrote:
> http://www.autodogmatic.com/index.php/sst/2007/02/02/subprime_credit_crunch_could_trigger_col
>
>
> also….
>
> 9/4/2006
> Cover of Business Week: How Toxic Is Your Mortgage? :.
>
> The option ARM is “like the neutron bomb,” says George McCarthy, a housing
> economist at New York’s Ford Foundation. “It’s going to kill all the people
> but leave the houses standing.”
>
> Some people saw it all coming….
>

The subprime setback actually hit about 18 months ago. Investors stopped funding new loans, and would be buyers were were no longer able to buy, thereby reducing demand. Housing fell and has been down for a long time. There are signs it bottomed October/November but maybe not.

I wrote about it then as well, and have been forecasting the slowdown since I noted the fed’s financial obligations ratio was at levels in March 2006 that indicated the credit expansion had to slow as private debt would not be able to increase sufficiently to sustain former levels of GDP growth. And that the reason was the tailwind from the 2003 federal deficits was winding down. as the deficit fell below 2% of GDP, and it was no longer enough to support the credit structure.

Also, while pension funds were still adding to demand with their commodity allocations, that had stopped accelerating as well and
wouldn’t be as strong a factor.

Lastly, I noted exports should pick up some, but I didn’t think enough to sustain growth.

I underestimated export strength, and while GDP hasn’t been stellar as before, it’s been a bit higher than i expected as exports boomed.

That was my first ‘major theme’ – slowing demand.

The second major theme was rising prices – Saudis acting the swing producer and setting price. This was interrupted when Goldman changed their commodity index in aug 06 triggering a massive liquidation as pension funds rebalanced, and oil prices fell from near 80 to about 50, pushed down a second time at year end by Goldman (and AIG as well this time) doing it again. As the liquidation subsided the Saudis were again in control and prices have marched up ever since, and with Putin gaining control of Russian pricing we now have to ‘price setters’ who can act a swing producers and simply set price at any level they want as long as net demand holds up. So far demand has been more than holding up, so it doesn’t seem we are anywhere near the limits of how high they can hike prices.

Saudi production for December should be out tomorrow. It indicates how much demand there is at current prices. If it’s up that means they have lots of room to hike prices further. Only if their production falls are they in danger of losing control on the downside. And I estimate it would have to fall below 7 million bpd for that to happen. It has been running closer to 9 million.

What I have missed is the fed’s response to all this.

I thought the inflation trend would keep them from cutting, as they had previously been strict adherents to the notion that price
stability is a necessary condition for optimal employment and growth.

This is how they fulfilled their ‘dual mandate’ of full employment and price stability, as dictated by ‘law’ and as per their regular reports to congress.

The theory is that if the fed acts to keep inflation low and stable markets will function to optimize employment and growth, and keep long term interest rates low.

What happened back in September is they became preoccupied with ‘market functioning’ which they see as a necessary condition for low inflation to be translated into optimal employment and growth.

What was revealed was the FOMC’s lack of understanding of not only market functioning outside of the fed, but a lack of understanding of their own monetary operations, reserve accounting, and the operation of their member bank interbank markets and pricing mechanisms.

In short, the Fed still isn’t fully aware that ‘it’s about price (interest rates), not quantity (‘money supply, whatever that may be)’.

(Note they are still limiting the size of the TAF operation using an auction methodology rather than simply setting a yield and letting quantity float)

The first clue to this knowledge shortfall was the 2003 change to put the discount rate higher than the fed funds rate, and make the discount rate a ‘penalty rate.’ This made no sense at all, as i wrote back then.

The discount rate is not and can not be a source of ‘market discipline’ and all the change did was create an ‘unstable equilibrium’ condition in the fed funds market. (They can’t keep the system ‘net borrowed’ as before) it all works fine during ‘normal’ periods but when the tree is shaken the NY Fed has it’s hands full keeping the funds rate on target, as we’ve seen for the last 6 months
or so.

While much of this FOMC wasn’t around in 2002-2003, several members were.

Back to September 2007. The FOMC was concerned enough about ‘market functioning’ to act, They saw credit spreads widening, and in particular the fed funds/libor spread was troubling as it indicated their own member banks were pricing each other’s risk at higher levels than the FOMC wanted. If they had a clear, working knowledge of monetary ops and reserve accounting, they would have recognized that either the discount window could be ‘opened’ by cutting the rate to the fed funds rate, removing the ‘stigma’ of using it, and expanding the eligible collateral. (Alternatively, the current TAF is functionally the same thing, and could have been implemented in September as well.)

Instead, they cut the fed funds rate 50 bp, and left the discount rate above it, along with the stigma. and this did little or nothing for the FF/LIBOR spread and for market functioning in general.

This was followed by two more 25 cuts and libor was still trading at 9% over year end until they finally came up with the TAF which immediately brought ff/libor down. It didn’t come all the way down to where the fed wanted it because the limited the size of the TAFs to $20 billion, again hard evidence of a shortfall in their understanding of monetary ops.

Simple textbook analysis shows it’s about price and not quantity. Charles Goodhart has over 65 volumes to read on this, and the first half of Basil Moore’s 1988 ‘Horizontalists and Verticalsists’ is a good review as well.

The ECB’s actions indicate they understand it. Their ‘TAF’ operation set the interest rate and let the banks do all they wanted, and over 500 billion euro cleared that day. And, of course- goes without saying- none of the ‘quantity needles’ moved at all.

In fact, some in the financial press have been noting that with all the ‘pumping in of liquidity’ around the world various monetary
aggregates have generally remained as before.

Rather than go into more detail about monetary ops, and why the CB’s have no effect on quantities, suffice to say for this post that the Fed still doesn’t get it, but maybe they are getting closer.

So back to the point.

Major themes are:

  • Weakness due to low govt budget deficit
  • Inflation due to monopolists/price setters hiking price

And more recently, the Fed cutting interest rates due to ‘market functioning’ in a mistaken notion that ff cuts would address that issue, followed by the TAF which did address the issue. The latest announced tafs are to be 30 billion, up from 20, but still short of the understanding that it’s about price, not quantity.

The last four months have also given the markets the impression that the Fed in actual fact cares not at all about inflation, and will only talk about it, but at the end of the day will act to support growth and employment.

Markets acknowledge that market functioning has been substantially improved, with risk repriced at wider spreads.

However, GDP prospects remain subdued, with a rising number of economists raising the odds of negative real growth.

While this has been the forecast for several quarters, and so far each quarter has seen substantial upward revisions from the initial forecasts, nonetheless the lower forecasts for Q1 have to be taken seriously, as that’s all we have.

I am in the dwindling camp that the Fed does care about inflation, and particularly the risk of inflation expectations elevating which would be considered the ultimate Central Bank blunder. All you hear from FOMC members is ‘yes, we let that happen in the 70’s, and we’re not going to let that happen again’.

And once ‘markets are functioning’ low inflation can again be translated via market forces into optimal employment and growth, thereby meeting the dual mandate.

i can’t even imagine a Fed chairman addressing congress with the reverse – ‘by keeping the economy at full employment market forces will keep inflation and long term interest rates low’.

Congress does not want inflation. Inflation will cost them their jobs. Voters hate inflation. They call it the govt robbing their
savings. Govt confiscation of their wealth. They start looking to the Ron Paul’s who advocate return to the gold standard.

That’s why low inflation is in the Fed’s mandate.

And the Fed also knows they are facing a triple negative supply shock of fuel, food, and import prices/weak $.

While they can’t control fuel prices, what they see there job as is keeping it all a relative value story and not ‘monetizing it into an
inflation story’ which means to them not accommodating it with low real rates that elevate inflation expectations, followed by
accelerating inflation.

There is no other way to see if based on their models. Deep down all their models are relative value models, with no source of the ‘price level.’ ‘Money’ is a numeraire that expresses the relative values. The current price level is there as a consequence of history, and will stay at that level only if ‘inflation expectations are well anchored.’ The ‘expectations operator’ is the only source of the price level in their models.

(See ‘Mandatory Readings‘ for how it all actually works.)

They also know that food/fuel prices are a leading cause of elevated inflation expectations.

In their world, this means that if demand is high enough to drive up CPI it’s simply too high and they need to not accommodate it with low real rates, but instead lean against that wind with higher real rates, or risk letting the inflation cat out of the bag and face a long, expensive, multi year battle to get it back in.

They knew this at the Sept 18 meeting when they cut 50, and twice after that with the following 25 cuts, all as ‘insurance to forestall’ the possible shutdown of ‘market functioning’.

And they knew and saw the price of this insurance – falling dollar, rising food, fuel, and import prices, and CPI soaring past 4% year over year.

To me these cuts in the face of the negative supply shocks define the level of fear, uncertainty, and panic of the FOMC.

It’s perhaps something like the fear felt by a new pilot accidentally flying into a thunderstorm in his first flight in an unfamiliar plane without an instructor or a manual.

The FOCM feared a total collapse of the financial structure. The possibility GDP going to 0 as the economy ‘froze.’ Better to do
something to buy some time, pay whatever inflation price that may follow, than do nothing.

The attitude has been there are two issues- recession due to market failure and inflation.

The response has been to address the ‘crisis’ first, then regroup and address the inflation issue.

And hopefully inflation expectations are well enough anchored to avoid disaster on the inflation front.

So now with the TAF’s ‘working’ (duh…) and market functions restored (even commercial paper is expanding again) the question is what they will do next.

They may decide markets are still too fragile to risk not cutting, as priced in by Feb fed funds futures, and risk a relapse into market dysfunction. Recent history suggests that’s what they would do if the Jan meeting were today.

But it isn’t today, and a lot of data will come out in the next few weeks. Both market functioning data and economic data.

Yes, the economy may weaken, and may go into recession, but with inflation on the rise, that’s the ‘non inflationary speed limit’ and the Fed would see cutting rates to support demand as accomplishing nothing for the real economy, but only increasing inflation and risking elevated inflation expectations. The see real growth as supply side constrained, and their job is keeping demand balanced at a non inflationary level.

But that assumes markets continue to function, and the supply side of credit doesn’t shut down and send GDP to zero in a financial panic.

With a good working knowledge of monetary ops and reserve accounting, and banking in general that fear would vanish, as the FOMC would know what indicators to watch and what buttons to push to safely fly the plane.

Without that knowledge another FF cut is a lot more likely.

more later…

warren

♥

Share