Another interest rate cut… and more dire consequences?

In a speech Thursday, January 10, 2008, Federal Reserve Chairman Bernanke promised to aggressively lower interest rates in order to boost prospects for the economy. After his talk, stocks briefly soared, and gold hit a record high of $890/oz. Friday morning, more bad news regarding the financial institutions sent the market sharply lower – but gold and silver kept climbing.

 

As you may remember, the following was posted on this forum back in September, 2007:

 On Tuesday, 9/18/07, the Federal Reserve cut the federal funds rate and the discount rate by 50 basis points (1/2%). The immediately obvious effects were a surge in stock, oil and gold prices. But what will be the long-term effects? A number of observations and postulations may be made, any one of which is subject to rebuttal: Having “bailed out the big boys” (large banks, financial concerns, mortgage companies, corporations, and possibly some home buyers), the move will also cause the value of the dollar to drop and inflation to increase.Gold, oil (gasoline), and other commodities will go up in price due to the effects outlined in item 1.The standard of living of the elderly and others on fixed incomes will suffer.Prices of nearly everything you buy at Wal-Mart and at the grocery will increase.The working man will be least affected since wages will increase along with inflation; his standard of living will suffer, but a bit less so than the elderly.The rich will get richer as the poor get poorer.Foreign holdings will begin to buy even more of the USA – real estate, corporations, etc., as they become cheaper in foreign currency terms.Foreign countries will be less inclined to buy US Treasuries, exacerbating the drop in value of the dollar. Should they decide to sell substantial amounts of dollar-denominated securities, all hell could break loose.The dire consequences of the Federal Reserve’s foolish manipulation of interest rates over the past decade may be delayed, but not prevented. 

The above observations are now truer than ever, for chances are good that the Fed will lower rates another 1% – 2% during the next few months, and inflation will soar. What can you, here, in Vicksburg, Mississippi, do to protect your assets and ensure your survival? Should you get out of debt, or borrow all you can? Should you buy only what you need, recycle everything you can, and stock up on necessities? Should you move to cheaper living quarters? Should you plant a vegetable garden, or, better yet, buy some land for a homestead? Should you invest in common stocks, commodities, foreign currencies, real estate, and gold, or hoard your cash?

 

Your observations are invited.

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  1. As an independent policy body, the Fed is supposed to keep its policy intentions a secret. Making its policy decision clear before the proper time distorts the financial markets. But that is just one problem with Bernanke’s thinking. Bernanke is making monetary policy decisions based on the performance of the stock market as a major metric for performance of the macroeconomy. Because the market is unstable, the media and the major market movers like mutual funds, pension funds and hedge funds, are shrieking “recession.” But the economy turned in an annualized 4.8% growth third quarter 2007, up from 3.8% the second quarter. Good growth in GDP despite the weak dollar, the “housing crisis,” terrorism and the war in Iraq. How can that be a recession? It isn’t, but a few very large lending and hedge fund institutions that got burned in their greed with the subprime mortgage market (a very tiny piece of the multi-trillion dollar U.S. economy) are determined not to take responsibility for their bad decisions. Bernanke is following in Greenspan’s shoes, apparently not realizing that the Greenspan policy of interest rates too-low-for-too-long is what caused the real estate bubble in the first place. And the bubble didn’t produce much for the GDP outside of construction, but lead to even greater debt as foolish people borrowed against their homes assuming their values would increase to infinity. The economy didn’t really begin to recover until the TAX cuts were put in place. It is important to recognize why using the market as the major measure of economic growth is distorting. The market is valued on earnings and earnings expectations, and it is the expectations that have everyone in a tizzy. More often than not, valuations are determined more on emotion–“irrational exuberance” or irrational pessimism—than on sound analysis. The media blather about the “housing financial crisis;” the shouts of the few about impending recessionary doom is what is rattling the confidence that is destabilizing the market. The so-called housing crisis is a tiny part of Theoretically, as an independent policy body, the Fed is supposed to keep its policy intentions a secret. Making its policy decision clear before the proper time distorts the financial markets. But that is just one problem with Bernanke’s thinking. Bernanke is making monetary policy decisions based on the performance of the stock market as a major metric for performance of the macroeconomy. Because the market is unstable, the media and the major market movers like mutual funds, pension funds and hedge funds, are shrieking “recession.” But the economy turned in an annualized 4.8% growth third quarter 2007, up from 3.8% the second quarter. Good growth in GDP despite the weak dollar, the “housing crisis,” terrorism and the war in Iraq. How can that be a recession? It isn’t, but a few very large lending and hedge fund institutions that got burned in their greed with the subprime mortgage market (a very tiny piece of the multi-trillion dollar U.S. economy) are determined not to take responsibility for their bad decisions. Bernanke is following in Greenspan’s shoes, apparently not realizing that the Greenspan policy of interest rates too-low-for-too-long is what caused the real estate bubble in the first place. And the bubble didn’t produce much for the GDP outside of construction, but lead to even greater debt as foolish people borrowed against their homes assuming their values would increase to infinity. The economy didn’t really begin to recover until the TAX cuts were put in place. It is important to recognize why using the market as the major measure of economic growth is distorting. The market is valued on earnings and earnings expectations, and it is the expectations that have everyone in a tizzy. More often than not, valuations are determined more on emotion–“irrational exuberance” or irrational pessimism—than on sound analysis. The media blather about the “housing financial crisis;” the shouts of the few about impending recessionary doom is what is rattling the confidence that is destabilizing the market. The so-called housing crisis is a tiny part of the macro-economy and most of the stocks in the markets have absolutely nothing to do with housing. Current expectations of market performance do not reflect what tens of thousands of companies are earning or have the potential to earn. Market reaction is affected by a multitude of other factors, like the price of oil, the assassination of Bhutto, Pakistan, Bush’s trip to the Middle East, global warming, global cooling, global in-between, Greenspan sneezing and goodness knows what else. That Bernanke is apparently ignoring current economic data is a clear indicator that he is bowing to the political pressure of the few. Salving fear of stock numbers is not the role of monetary policy. It is meant to bring price stability. Bernanke’s approach is causing the instability, because the large market movers, by driving the market up on expectations of a rate cut, force Bernanke to cut rates. The market movers, who basically buy and sell their own portfolios over and over again, can force the interest rates down at will. Meantime, the little trader is bounced around like a rowboat in a hurricane and the responsible people get robbed of their savings through ultra low fixed income returns.
    As an independent policy body, the Fed is supposed to keep its policy intentions a secret. This and his use of stock market performance to determine monetary policy presents two free-market distorting problems. First, stock market movers like the big mutual funds and pension funds drive the market up or down as they buy and sell their own portfolios. They can drive the market up on the belief that the Fed will cut the rate; Bernanke then must cut the rate. The multitudes of individual investors generally follow the movements of the large funds. Second, confidence on future earnings drives stock prices. With the media, market movers, lending institutions and hedge funds crying “recession” and “housing financial crisis,” it’s no wonder the market is falling. Companies lay off and they don’t hire when the market value of their stocks fall. But the economy turned in an annualized 4.8% growth third quarter 2007, up from 3.7% second quarter. This performance does not signal a recession. Market reaction is affected by a multitude of other factors, like the price of oil, the assassination of Bhutto, Pakistan, Bush’s trip to the Middle East, global warming, global cooling, global in-between, Greenspan sneezing and goodness knows what else. That Bernanke is apparently ignoring current economic data is a clear indicator that he is bowing to the political pressure of the few. Salving fear of stock numbers is not the role of monetary policy. It is meant to bring price stability. Bernanke’s approach is causing the instability. Moreover, tens of thousands of listed companies have nothing to do with the housing business and the subprime mortgage market is a very tiny piece of the multi-trillion dollar U.S. economy. The current market valuation does not reflect the future potential of the majority of the market. The political pressure on Bernanke to lower rates in the name of “housing financial crisis” is coming mainly from the few but powerful lending and hedge fund institutions that lost their greedy gambles on the subprime mortgage market. The financial institutions are determined not to take responsibility for their bad decisions. They are demanding that Bernanke reinflate the housing bubble to “fend off recession,” but it’s really to cover their losses. The housing bubble did not contribute that much to GDP outside of construction. It was the TAX cuts that got the economy moving again. The bubble even led to greater debt as people borrowed against their homes. That kind of risky debt and bad monetary decisions is creating the very instability in the market that Bernanke says he is trying to cure. Now, the small investors is tossed about like a rowboat in a hurricane and the responsible people are robbed of their savings by ultra-low fixed-income earnings.

  2. Yip Yap, I have to disagree – very strongly – with your conclusions. The US may be headed for the most disastrous year or two that anyone living has ever seen – and that may include the “Great Depression.” Specifically, I disagree with your comments as follows:

    “The so-called housing crisis is a tiny part of the macro-economy and most of the stocks in the markets have absolutely nothing to do with housing.”

    The housing crisis will worsen severely, and may result in a rash of bank failures, with the possibility of a failure of the entire US financial system. You cannot believe what the banks, the brokers, and CNBC’s talking heads say about SIVs, “bottoms,” or capital injections (for the record, they’re cash injections and capital losses.)

    “…the economy turned in an annualized 4.8% growth third quarter 2007, up from 3.8% the second quarter. Good growth in GDP despite the weak dollar, the “housing crisis,” terrorism and the war in Iraq. How can that be a recession?”

    If you believe government figures for GDP, unemployment rates, CPI, PPI, etc., you live in a fairy tale world. The government is lying just as broadly as the bankers in an effort to put off as long as possible the inevitable collapse of the market and the economy. We have been in a recession for months, and it’s only getting worse. Wake up, Yip Yap, and get prepared for the bad times ahead.


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