Wait...So Your Saying Rate Cuts Fuel Inflation?
A: As Bernanke & Company did what they had to do to save wall street and 'forestall future adverse effects to the economy', you are seeing the side-effects of this type of policy. Our fed has clearly moved from a dual mandate of price stability (inflation) & economic growth, to one solely of economic growth! Now, I'm reading headlines like 'Food Shortage Rises With Prices' and 'Food Prices Rising Fastest in 17 Years'. Now that the fed used up much of its arsenal, I'm wondering when the time will come that they will have to combat inflation by hiking rates; and whether we will be out of this housing/credit mess by that time?
Can you imagine rates rising when housing is still pressured and loans are still hard to secure? There is no such thing as a free lunch and right now, the fed has poured a rainstorm of stimulus onto wall street in the hopes of easing the credit crisis (seizing up of credit markets resulting in the inability to offload assets on the secondary mortgage markets) that resulted from natural market forces related to the housing/debt correction. We are no longer a society that allows a market to go down, for fear of the consequences. Instead of taking our medicine now, we have to deal with the side effect of commodity inflation as housing continues to deflate. Will we need to take the medicine later anyway? The fed's actions, while understandable given the depth of the problems we face, may still not be enough and I am concerned that inflation will runaway from us; what am I saying, it already has!
According to Bloomberg:
Treasuries fell as a government report showed wholesale prices rose at almost double the pace forecast, while New York manufacturing unexpectedly grew, fanning concern that inflation will accelerate.Every time the fed cuts rates to cure one ailment, they make another scratch somewhere else. With each cut, the US dollar gets weaker and commodities priced in dollars rise. The speculative trade riding the currency wave isn't helping much either; leaving the fed hoping that a slowdown will be the driving force to bring down commodity prices. I've said this so many damn times on this site: commodity inflation + housing deflation is NOT A GOOD MIX! Pipeline inflation is bubbling and we can expect future inflation data to be very troubling indeed.The producer price report is "a wake-up call that's there is still inflation pressure," said T.J. Marta, a fixed-income strategist in New York at RBC Capital Markets. "It's definitely bearish for bonds." Prices paid to U.S. producers increased 1.1 percent in March from 0.3 percent the previous month, the government said. The median forecast in a Bloomberg survey was for an increase of 0.6 percent.
The fix? Here's a thought: ANYTHING THAT WILL SUPPORT THE US DOLLAR! We MUST remove the speculative currency trade that has driven commodity prices higher; arguably there could be $30/barrel in speculative trade in oil as an example. Even if this means the fed changes verbiage to put their bias into the fight against inflation, then so be it! That would be interpreted by traders that future rate cuts are in serious doubt, the US dollar will be supported, and it would remove a good portion of the speculative trade in most commodities. It doesn't fix the supply problem that has resulted from fast growing economies like China & India, but it will help by removing the bets made simply on the premise of a weakening US dollar.
Barry Ritholtz, the ever present force arguing against the use of CORE datasets (for the simple reason that food & energy price rises have NOT been self defeating and have NOT been temporary in the past 4 years), provides this chart of March PPI; with the red dotted line showing the fed's target level:
If we let inflation runaway much further, because of the continued bias on growth and the current crisis, we will enter a period of rate hikes in the medium term future to combat the side effects that resulted from the management of this crisis. Think about how that will impact consumer debt payments, the bond market and lending rates and how healthy the credit markets may or may not be at that time! Inflation is a silent killer and as the saying says, 'is the cruelest tax of them all'!
Add to Newsvine
Comments (7)
It is pretty amazing what's going on in the real world out there. The food strikes and protests ....and the fact that they blame the U.S. for diverting corn to ethanol (the biggest waste of food and energy ever seen) are downright scary. What seems strangest to me is that while we are seeing the signs of slowdown, not only in the U.S. economy, but now in European and Asian economies, and we are seeing various property and stock market bubbles being deflated, we have not seen a sharp enough downturn to impact the various commodity squeezes going on. It's really hard to get people to stop consuming, even when they don't have a lot of spare disposable income. Additionally, supply chains around the world are so efficient, that there has been little in the way of excess inventories to cause a real back-up in supply chains and slowdown in business operating rates. It seems more likely that business operating rates and consumer spending are just going to augur in slowly due to overleveraged and under-employed populations, our own being a major factor. Eventually this should put the lid back on some of these prices....but there's little sign of it now. I agree with you Noah, that the Fed is out of options, can't lower rates much (they'll be getting close to zero anyway) and it isn't helping make credit more available, and they can't raise rates much for fear of killing a wounded patient. The only thing that's gonna help this mess is time, lots of it.
Posted by jeff | April 15, 2008 12:58 PM
My impression is that the key indicator of the inflation trend is the 5th year rate on the 5 year treasury. This is a measure of inflation expectation and fed policy targets that measure. The slowing economy is suppose to keep that rate down although what is going on now as to inflation is not good. I am hoping that there is someone out there who can explain this 5yr. forward rate so we all can understand better what it is and its importance to understanding what is going on. Thanks.
Posted by query1 | April 15, 2008 3:30 PM
How would you remove the speculative currency trade? Can fed policy changes strongly impact this, or would you propose a legislative solution.
Posted by Milan Cole | April 15, 2008 3:49 PM
Jeff - when do you see fed hiking rates down the road. I know its a bit off, but you know they will keep rates low until economy stabilizes and by then inflation will have to be their only focus.
Posted by Noah | April 15, 2008 3:55 PM
Milan - By talking tough on inflation. That would do it. The moment we get a hint that FFR is done going down, and in fact are likely to rise in near term to combat inflation pressures, you will see the dollar rise and commodities priced in dollars fall. Speculative traders are a nervous bunch. Take out a significant reason for the trade, in this case a weakening us dollar, and you will see many profits come off the table.
Posted by Noah | April 15, 2008 3:58 PM
Yes Noah I agree. When the fed starts talking tough on the dollar then something will happen. So far they haven't even so much as lifted a single tool to change the rising tide.
The event to be seen before us should rival that of the Bank of England's mishandling of their currency in 1992 which resulted in massive changes to the valuation of the pound for years afterwards.
Posted by Ed | April 15, 2008 4:34 PM
sorry for typos all, I type so fast to get these posts out and I know I should put more time into reviewing spelling errors; duel/dual, their/there, then/than, etc..
I know it pisses many people off, and has a numbing effect on credibility as you read. Again, sorry!! I hope the point of the post still gets across clearly.
Posted by Noah | April 15, 2008 5:34 PM