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Tuesday, March 18, 2008

The Fed in Crisis Mode or Another Massive Rate Cut

Here is an article with the sort of delicious irony that only an incompetent journalist could create...


The Federal Reserve on Tuesday continued its determined efforts to ward off a recession or worse by slashing three-quarters of a point off a key interest rate.

...

Still, inflation was on the minds of the committee -- a concern that may have prevented a full point cut, which had been expected by many on Wall Street.

With all due respect to the author, if the Fed were actually worried about inflation they wouldn't have cut the Fed Funds Rate anywhere near .75%. This is sort of like me saying that I am worried about my budget so I didn't get a sun roof on my new Mercedes.

The reality is that the Fed is frightened of a recession and betting that their ridiculously aggressive action won't boomerang into inflation. It is obvious that the Fed learned no lessons from Greenspan's aggressive cuts in 2001-2003, or worse, sees no lesson to be learned. (I personally believe that his aggressive rate cut that at one point left the Fed Funds Rate at .75% started the ball rolling on the mortgage crisis by creating loose money...the current fed funds rate is now 2.25%)

Now, let's review the economic situation. The last two months we have had negative employment numbers. No way to spin that but vey bad. Still, the unemployment rate is 4.7%. The last GDP number was .6% growth. It isn't great, but not quite a reason to panic. The dollar is very weak, the stock market continues to trade near all time highs, and interest rates continue to be fairly low. This is the picture of a troubling economy not an economy in panic. I continue to stick to my analysis that the Fed is overreacting big time, and that their bet will come back to bite all of us with screaming inflation soon enough.

I believe that the Fed will soon get the Fed Funds Rate at or near .75%. Unfortunately for the Fed, he could lower the Fed Funds Rate below zero and it still won't bring lending back into mortgages. As long as mortgage portfolios continue to hold loans of bad borrowers rate cuts are irrelevant. I do believe that ridiculously low drops will create loose money in other lending. My prediction is loose lending in small business loans. I think we will have an explosion of small businesses from small business loans and they will likely be full of unqualified projects that will burst in the next few years.

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