Sense on Cents

Almost three full years from the official start of The Great Recession and fifteen months from its end, and our economy continues to limp along and languish amidst the weight of ongoing — even unrecognized — debts. Can we take a double dose of Nyquil, chase it with some Irish Mist, and hope we wake up feeling better in the morning? If it were only that easy.

The simple fact is our economy is battling a serious bout of seemingly terminal ‘walking pneumonia.’ How might we diagnose that malady? All we need to do is read yesterday’s Release from the Federal Reserve:

Information received since the Federal Open Market Committee met in August indicates that the pace of recovery in output and employment has slowed in recent months.

Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software is rising, though less rapidly than earlier in the year, while investment in nonresidential structures continues to be weak. Employers remain reluctant to add to payrolls. Housing starts are at a depressed level. Bank lending has continued to contract, but at a reduced rate in recent months. The Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability, although the pace of economic recovery is likely to be modest in the near term.

Not exactly a bundle of optimism or enthusiasm embedded in that overview.

Measures of underlying inflation are currently at levels somewhat below those the Committee judges most consistent, over the longer run, with its mandate to promote maximum employment and price stability. With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to remain subdued for some time before rising to levels the Committee considers consistent with its mandate.

That statement right there tells us the concern the Federal Reserve has toward underlying disinflationary trends, if not the risk of slipping into outright deflation. If Ben and team are going to do what is necessary to reignite a spark of inflation, that process will come at the expense of our greenback. Furthermore, can we feel confident that the experiment will generate an appropriate measure of price levels, or do we run the risk of overshooting and causing hyperinflation or stagflation?

The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels for the federal funds rate for an extended period. The Committee also will maintain its existing policy of reinvesting principal payments from its securities holdings.

Not a hint of concern about needing to ease off the pedal.

The Committee will continue to monitor the economic outlook and financial developments and is prepared to provide additional accommodation if needed to support the economic recovery and to return inflation, over time, to levels consistent with its mandate.

If anything, Ben is preparing the market for another easing, although with the Fed Funds rate at 0-.25%, this easing would come in the form of opening the Federal Reserve’s balance sheet once again for more purchases of government and/or mortgage securities. Damn the torpedoes, full steam ahead.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; James Bullard; Elizabeth A. Duke; Sandra Pianalto; Eric S. Rosengren; Daniel K. Tarullo; and Kevin M. Warsh.

Voting against the policy was Thomas M. Hoenig, who judged that the economy continues to recover at a moderate pace. Accordingly, he believed that continuing to express the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted and will lead to future imbalances that undermine stable long-run growth. In addition, given economic and financial conditions, Mr. Hoenig did not believe that continuing to reinvest principal payments from its securities holdings was required to support the Committee’s policy objectives. (LD’s edit: I wrote about Hoenig in August 2009, in my commentary, “Capitalism Without Failure is Like Religion Without Sin”).

The heck with the Nyquil, we may be better off with just the Mist.

Larry Doyle

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I have no affiliation or business interest with any entity referenced in this commentary. As President of Greenwich Investment Management, an SEC regulated privately held registered investment adviser, I am merely a proponent of real transparency within our markets so that investor confidence and investor protection can be achieved.

This entry was posted on Wednesday, September 22nd, 2010 at 5:12 AM and is filed under General. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.