Thursday, December 18, 2008

ZIRP & The Economy To Emerge

In this attempt to get the economy going again a deep breath and a bit of thought seems in order. If the problem today is that consumers are too levered and in fact the economy is built on too much debt relative to national income, then the solution is to make debt cheaper? I know policymakers are trying to avoid depression, a valued goal, but it seems to me that they are now replacing consumer leverage with government leverage to get the economy back to the pre-recession level of economic activity. Considering all the talk about de-leveraging the U.S. economy because it is living beyond its means then shouldn't we be managing the shrinking of the economy through debt relief and loan modification to prevent wholesale asset sales rather than desparately trying to pump the air back into the balloon?

Perhaps a better solution to the current situation is to let the dollar fall. Now I know there are many of you who consider the currency's strength as an indicator of economic fortitude -- well this is an "old Europe" (to borrow a phrase) idea and certainly not an Asian one. And yes, competitive devaluation is overall destructive. My suggestion is not devaluation so much as letting the dollar fall to its fair price. Or, in other words, let the other currencies rise to theirs.

The whole story is a lot longer and this being a blog my promise is to keep it short. Looking at the markets, the rush for Treasurys continues unabated and the TIPs continue to price near term deflation. The so-called Treasury bubble is being created by two market forces of demand. First off, the Fed is buying. Second, and more important, no one wants to show anything in their portfolios other than Treasurys. Third, the rest of the world isn't doing so well and a lot of foreign buyers prefer the safety of U.S. Government securities. Once the year turns I would expect Treasurys to cheapen some but not a whole lot.

No comments: