Tuesday, December 12, 2006

Why The Fed Debates While We Wait

Economies run on credit. No one knows that more than a central bank. While we look at the mind-numbing number of statistics regarding economic activity and try to make strong conclusions out of weak data, as the revisions underscore, the willingness to lend stands out as a gauge of where the people who control capital feel like spending their money.

You can decry ever narrowing corporate spreads in the bond market, junk and investment grade alike, as the result of too much global liquidity chasing yield (isn't that ultimately inflation). But the lending standards of banks are subject only to senior management's desire not to have profits later damaged by increases to loan loss reserves.

In that spirit, I offer the chart below as evidence that credit standards remain well below the levels of "saying no, we are staying in cash" that create the credit crunches that create recession.

If anything, the chart tells me that the Fed sees nothing but an economy set to adapt and grow past this housing slump. Credit ultimately creates inflation. That may be tougher to see in a goods market flooded with imports from low wage nations with cheap currencies, but it does show up in services and asset prices. Not the stuff of CPI but the stuff of increased wage demands.

Will comment post the FOMC statement, which I suspect will be newsworthy in its tilt towards neutral and give the market the requisite set up for a January ease. Chart above says the ease won't come. And as I have written before, if the ease doesn't take place in January, the "adapt and grow" economy fueled by plentiful credit will not give the Fed the opportunity to ease for quite some time.

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