Wednesday, July 14, 2010

Is the Fed Running Out of Bullets?

A little humor is always needed during times like these so I thought I would start out with a little Jon Stewart.

Funny Stuff!:

The Daily Show With Jon StewartMon - Thurs 11p / 10c
America's Got Nothing
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Is The Fed's Bazooka Empty?

If you read the FOMC minutes today it sure sounded like it.

Let me highlight a few of the statements from the Federal Reserve in today's minutes:

"Overall, participants continued to expect the pace of the economic recovery to be held back by a number of factors, including household and business uncertainty, persistent weakness in real estate markets, only gradual improvement in labor market conditions, waning fiscal stimulus, and slow easing of credit conditions in the banking sector.

Participants generally anticipated that, in light of the severity of the economic downturn, it would take some time for the economy to converge fully to its longer-run path as characterized by sustainable rates of output growth, unemployment, and inflation consistent with participants' interpretation of the Federal Reserve's dual objectives; most expected the convergence process to take no more than five to six years.

Fiscal policy was also seen as currently contributing to economic growth, although participants expected that the effects of fiscal stimulus would diminish going forward and also anticipated that budgetary pressures would continue to weigh on spending at the state and local levels.

Participants noted that financial conditions had tightened somewhat because of developments abroad. The effects of a stronger dollar, a lower stock market, and wider corporate credit spreads were expected to be offset only partially by lower oil and commodity prices and a decline in Treasury yields.

Many participants anticipated that the economic expansion would be held back by firms' caution in hiring and spending in light of the considerable uncertainty regarding the economic outlook, by households' focus on repairing balance sheets weakened by equity and house price declines, and by tight credit conditions for small businesses and households.

My Take:


We have done everything that we can and it hasn't worked. Our Ponzi government spending has been a short term positive for GDP as we use our balance sheet to replace the consumer.

However, because this massive government spending is unsustainable, we don't expect that it will have a positive effect on GDP going forward because we will blow ourselves up if we continue spending at this pace.

Therefore, we give up and you are on your own. Things should look a lot better in 5-6 years as prices collapse as the banks and consumers continue their deleveraging.

Until then you are on your own because there is nothing else we can do...Good Luck!!!!

Alright let me turn my scarcasm down just a tad. The reality here is this is what they are really are saying in my view, however, I don't believe for a minute that they are going to sit on the sidelines and allow the destruction that they describe above to happen without taking drastic action.

If you read between the lines here I believe we are getting setup for another spending spree(QE2) by the Fed.

Bonds soared after the FOMC minutes hit the wires. The talk of the bond market was the dire unemployment situation that was described by the Fed.

Can you blame them? What they are thinking is this: How can we recover if people don't have jobs?

The Fed pretty much admitted today that we are about to see another 5-6 years of anemic growth. This is really an admission of another "lost decade" when you consider the fact that we got into this mess 4 years ago.

This is a pretty startling revelation when you when you think about it.

The Bottom Line

The Fed pretty much painted a dire picture of deflation today.

They amusingly predict that this process will only lead to slower growth and then reconfirmed that they don't believe that this will lead to another "double dip" recession.

Oh really? Why doesn't Ben give Japan a call and see how this deleveraging via deflation worked out for them? The NIKKEI has gone from 39,000 down to 10,000 in the 20 years since their credit bubble burst.

I think this is a bunch of hogwash. They know darn well that the consequences of delation will be catastrophic to the economy as the process of deleveraging continues via lower prices and slower demand as unemployment continues to stay high.

This "doom talk" is merely a setup for futher action down the road. I expect that the statements out of the Fed will sound increasingly bearish moving forward as they attempt to scare Congress into another spending spree.

Ben will not allow the word "deflation" to be printed on his gravestone. He wants to be the central banker who finally defeated deflation.

He doesn't want us to start the healthy process of beginning to live within our means via deleveraging/deflation.

Bernanke wants us all to keep borrowing dammit! The Fed needs us to spend spend spend until we all end up being debt slaves for the rest of our lives!

The whole thing is so insane when you really think about it. The reality here is the deleveraging process cannot be stopped because we longer have the ability or desire to borrow more money.

Without the velocity of money via borrowing the game is over for the banks and Ben knows it.

He also knows that the Fed has used all of the ammo left in his repitoire.

Lending rates are at all time lows and it has done nothing to increase the demand for lending or consuming. What else can he do? Bernanke can't reach into our pockets and force us to buy a flatscreen TV that we can't afford.

It's over but that doesn't mean the Fed won't go down without a fight.

The war of deflation vs. inflation is far from over. Both will have their time in the sun over the next several years.

So which side wins? A lot of it is going to depend on Fed policy and who is in power down in DC.

If the Fed stays on the sidelines as it hinted above then the short term risk is severe deflation followed by a severe inflation a couple years out.

If the Fed goes to far to fight deflation via QE2 then the inflation crisis will come that much quicker.

In the end prices will drop unless the Fed prints or devalues our currency. Regardless, rates will have to rise down the road either way because the money creation has already been severe, and the smart money realizes that the best of printing is yet to come.

Stay tuned!

Disclosure: No new positions taken at the time of publication.


Herb said...

So which side wins? A lot of it is going to depend on Fed policy and who is in power down in DC.

Which side wins? I think both are going to take turns.

Jeff said...


Totally agree!

This is exactly what happened in the late '70's early '80's.

Most of the idiots investing today have no clue about this period.

Gold would move $50 a day higher and lower as the market attempted to digest what was going on.

Eventually Volker injected some sanity into the markets by raising rates.

Today is no different. It's gonna happen. The question is when.

Anonymous said...

The world has been saved. No need to freak out. We will see anemic growth over the next 10-20 years. That's the same time the banks could have used to write down their bad investments. But instead the US government chose to write down Joe Sixpack.

Jeff said...



The taxpayer has been thrown under the bus.

Jury is still out on the world being saved IMO.

I hope we have avoided a catastrophe but the chance of a major financial crisis is still very high as a result of all of the debt.

I hope we never see it!