The Fed Has Not Done Enough and it Has Not Fired Most of its Ammunition
Uneasy Money | Aug 10
Last summer, the Federal Reserve implemented QE2 to prevent inflation expectations from dipping to dangerously low or even negative levels. This effort proved to be successful. The slowdown in economic growth was caused by a series of unfortunate events: severe winter weather, a sharp increase in oil prices due to the Libyan uprising, and the tsunami and nuclear disaster in Japan. Rather than allowing prices to rise naturally in response to these supply shocks, there was pressure to tighten monetary policy to fight the resulting price increases. The consequences of this approach are becoming increasingly clear: inflation expectations and real interest rates are plummeting.
New jobless claims dropped below 400,000 last week on a seasonally adjusted basis, marking the first time in four months. While this is not a definitive signal that the economy is on solid footing, it does suggest that the numbers for this important indicator aren’t worsening. There is still debate on whether the trend is improving, although some positive news is emerging, as we’ll discuss shortly.
Market volatility can be unsettling, yet it often presents opportunities. Many investors fail to see it that way, resulting in missed chances to rebalance their portfolios over the long run. However, the crowd’s hesitance or inability to rebalance effectively is a significant factor that allows a select few savvy investors to benefit from these rebalancing opportunities. If you missed out previously, don’t worry; as recent market fluctuations demonstrate, there will always be new chances to reassess your approach.
It’s interesting how inflation fears related to rising commodity prices have become less prevalent lately. This development isn’t entirely surprising. In fact, commodity prices have declined sharply in recent weeks, with crude oil (West Texas Intermediate) now priced under $80 per barrel, down from nearly $115 in late May. Other key commodities have also experienced significant drops. This illustrates that prices in commodities can be quite volatile, and we should exercise caution before making major decisions based on short-term price fluctuations.
Bloomberg reports that “Bill Gross was right after all.” The renowned bond fund manager at Pimco predicted a prolonged period of sluggish growth following the Great Recession, an outlook that many had dismissed as overly pessimistic:
Has the Federal Reserve’s monetary stimulus since 2008 been ineffective? Many economic analysts believe so, citing a variety of compelling evidence. The U.S. economy continues to struggle with sluggish growth, high unemployment, and a bleak outlook for improvement. On the surface, this may seem like persuasive evidence for failure. However, this interpretation overlooks what monetary policy has actually achieved—or, more precisely, what it has prevented from occurring.
Recently, there has been a significant lack of macroeconomic clarity—more than usual—prompting the Federal Reserve to take decisive action to improve focus, albeit in a domain they can control. In their statement, the Committee indicated that they expect economic conditions—characterized by low resource utilization rates and a subdued inflation forecast over the medium term—to necessitate exceptionally low federal funds rates through at least mid-2013. While this isn’t quantitative easing (QE3), which some analysts have suggested, it is an ambitious move by the central bank to outline monetary policy for the next two years. This is akin to a politician committing to specific votes in 2013. For those seeking clarity, this announcement offers some insight, though its effectiveness remains uncertain, yet its audacity is unquestionable.
Ken Rogoff from Harvard tells Bloomberg that the Fed is likely to embark on a new round of quantitative easing. “They certainly should do something right away,” says the co-author of This Time Is Different: Eight Centuries of Financial Folly
Why This Crisis Differs From the 2008 Version
The Wall Street Journal | Aug 9
Three fundamental differences distinguish the current financial crisis from that of three years ago. Most notably, the two crises originated from entirely different sources. The earlier crisis spread from the ground up, starting with overly optimistic home buyers, rising through the Wall Street securitization process—with significant contributions from credit-rating agencies—and ultimately infecting the global economy. The failure of the financial sector triggered the recession. Conversely, today’s crisis is a top-down issue, as governments worldwide have struggled to stimulate their economies and regain control, gradually eroding the trust of both businesses and financial communities.
Standard & Poor’s has concluded that the U.S. no longer merits a triple-A credit rating. However, the Treasury market disagrees, as does David Levey, a former managing director of sovereign ratings at Moody’s (1985-2004). Rajiv Sethi, an economics professor at Columbia University, provides additional insights.
### Conclusion
In summary, the economic landscape remains complex, marked by uncertainty and varied viewpoints on monetary policy and market dynamics. As we navigate these developments, it’s essential to stay informed and adapt strategies that consider both current trends and potential future shifts. This ongoing dialogue will shape our understanding of the financial environment in the near term.