Tuesday, June 27, 2006

Bernanke Berry Blurbs -- Whats a Chairman to do?

A brief note coming into the Thursday FOMC meeting, or really the statement. The Berry article today was, I believe, an attempt to tell the market that if we stop, it doesn't mean we can't start again and please, please, please understand that it doesn't mean we are soft on inflation. So lets keep rates up and not let the curve invert (which really means the market betting on an ease next year).

A halt does mean that its time to step back and see how the patient is doing. At the broad level, all this makes sense. At first, the economy needed some hand holding as the Fed started to lift rates from 1% to where we are now. The recovery seemed fragile -- animal spirits were burdened by too much debt leveraged off of assets that deflated. Now that we are several years into recovery and rates are about 150 points below nominal growth, there can't be a road map for whats next -- the economic outlook is uncertain. There can be an understanding that the Fed is resolute in allowing real growth but squashing activity that smells of inflation expectations, hence the Berry article. We all know that investors don't like uncertainty and brokers love it, so the Fed clearly helps investors between the meetings by letting us all know how they are viewing the data and its influence on policy.

What Bernanke wants as the end to this current game is credibility and for rates to level out so they and the economy can behave more like 1996/97/98. It was then that Greenspan found the new economy, we found goldilocks, the Fed raised rates 25bp once in that period -- at the Mar 97 meeting. During that whole time, Greenspan was running counter to the wise wall street wizards who were proclaiming that the economy was too hot, etc. for rates to stay that low and keep inflation down. Greenspan was right, the wizards were wrong. The policy did, however, create its excesses, culminating in the LTCM debacle that caused the sharp drop in rates in Sep 98.

Enough history, bottom line is that we are going to live in this uncertainty for a while. Although I think he his stopping too soon to quash inflation, it still isn't wrong for Bernanke to hold at 5.25% and wait and see. By the way, for those convinced of a pause in August and a go in Sep -- if you know the Fed is going to go in Sep, why wouldn't they just go now, or is it that your forecast is better than the Fed's? Given the track record of the street's forecasts vs the Fed, I'll bet on the Fed.

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