Blame the Fed?

Tuesday, May 30, 2006 | 06:30 PM

As you might have suspected, I disagree with those who are blaiming today's whackage on the Fed; In particular, Michael Moskow's interview with CNBC's Steve Liesman. 

Bob Marcin, whose views I always respect (tho don't necessarily agree with) blames Moskow as to the causes of the selloff.

"In my opinion part of the market's decline is due to the Michael Moskow CNBC interview this morning. I think the Fed and Mr. Moskow just don't get it.

They continue to press the rate hike story. It's a mistake. The real estate market is in disarray. Consumption is slowing. And much more slowdown is baked in the cake.

And this glorious morn, we get to listen to Moskow pitch his "personal" inflation target of 1-2%. Well, that's absurd.

Just 2 years ago, Easy Al took rates to zero because the PCE was at 1%. How can the deflationary depression scenario come out at 1% inflation, and an FOMC member have the same rate in his normal target range? You can't, period.

If 1% gets us a Fed panic, I humbly suggest taking the range to 2-3%, with the midpoint being the real target. Then, the pause option becomes much more viable now.

I am on the record calling 1% Feds fund a mistake. I want to be there for this call. I think a second half material slowdown is a done deal. Give me a 6% Fed funds this year and I promise you a recession next."

Then why the sell off?

There has been an ongoing technical decay in the markets for sometime now, and that's a reflection of all these seperate elements. The Fed is merely one (amongst many) issues weighing on equities. I would place a heavier emphasis on the emerging markets meltdown, the commodity correction, the dollar's slippage, WalMart's numbers showing high energy prices biting consumers, GM's downgrade, and the general real estate/housing slowdown, on top of all the cyclical factors we have mentioned.

But since the Fed is the topic at hand, recall how we got much of this reflation/inflation: It was that very same 1% that lit the fire the Fed is now trying to contain.

Consider the Hobson's choice dilemma all Fed Chiefs must face: On the one hand, if they overtighten, they will force the economy to slow too much, and risk a recession. On the other hand, if inflation gets away from them, it can become a runaway wildfire. They have a very hard time playing catch-up, given the self-reinforcing tendency of inflation to feed on itself. So they end up forcing an even more severe recession.

I think the US economy is resiliant and multi-faceted -- and the Fed knows this. Historically, we have shown the ability to bounce back from all kinds of problems. The Fed knows this also.

This pair of choices is why, IMO, the Fed tends to overtighten. The always rebounds from a recession, and relatively quickly, also. On the other hand, 1970s-style inflation haunts the dreams of all economists and especially those who sit on the Fed. I suspect soft landings are mere serendipity, and not the result of brilliant Fed policy.

Given this choice, it's not too hard to see why the Fed is likely to over-tighten. Of they are wrong, we get a mild recession, which we always bounce back from. Let inflation get away from the Fed, and (shudder) it gets ugly.

Hence, they do what must be done to keep inflation well contained . . .

Tuesday, May 30, 2006 | 06:30 PM | Permalink | Comments (18) | TrackBack (0) add to | digg digg this! | technorati add to technorati | email email this post



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Not to completely downplay the blowoff today , and realizing it's post-holiday trade , but volume was only 1.55B on nyse , and the DIA's ,SPY's , and QQQQ's traded 70% of their recent 10-day volume .... a positive there ?

Posted by: jj | May 30, 2006 6:41:53 PM

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