June 10, 2008

The Fed continued Jawboning of the Economy


It has often been said that monetary policy's real effectiveness is in creating expectations. During Greenspan's era, for all the criticism he receives, he was generally calm and methodical about monetary policy. He was not prone to over react as evidenced by consistently moving down 1/4 point and up 1/4 point. What he really did was create confidence in the system and "broadcast" consistent expectations.

Currently one of the large problems I see with the economy are the "surprises". The unexpected rate cuts, the larger than expected rate cuts. This inefficient "broadcasting" of expectations causes investors and the market to be quite a bit more jumpy than usual. It turns investing into gambling and has massive ripple effects, just look at the loss of jobs and increase in the unemployment rate, food prices jumping, commodities increasing rapidly, and the wild daily swings in oil prices. None of these things lead to a stable economy or a growing economy. When there is uncertainty, businesses and investors go to the sidelines to wait and see.

That has been the problem with Bernanke's stewardship. Instead of business, investors, and shareholders moving the market and increasing growth with the Fed acting to compensate for the peaks and valleys, we have a Fed that is leading the market not assisting the market. They are becoming market makers instead of stewards. This is going to be a real big problem in both the near and long term time horizons. One has to assume that with the article out today and last week, the Fed has definite ideas to raise interest rates going into the end of this year. Let's hope they start being more measured and reacting with a more disciplined pace. They need to once again establish a prudent "boring" Fed that, though may seem mystical about their announcements, broadcast consistent expectations.

This will allow business and investors and consumers the ability to stop hedging and guessing what the Fed is going to do and work on providing goods and services the economy can use and pay for them. It seems wonderful to many I talk to, that the Fed bailed out Bear Stearns, but again it simply created more trepidation from the market. Sometimes it is good psychologically to let the market take one right on the chin and allow it to pick itself up and move on. The Fed trying to deflect every blow is causing us to have a weak ineffective market system.

The Government and the Fed would do well if they observed the lesson taught in the fable of the Tortoise and the Hare, "slow and steady wins the race."

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