An Independence Day Wish

In my last post, the final point was to state that Fed needs to move higher, and quickly. Today, as the ECB has pushed up rates 25bps and the US economy lost another 60,000+ jobs, it is even move imperative. While this seems counterintuitive (certainly to the Fed it is), a further at the reasons for slower economic growth make higher rates necessary. A wise corporate bond trader told me many times over that it is all about perception, and perception becomes the reality eventually. That is where we are now. Fuelled by an overactive media (A note to the media: When you start interviewing each other, meaning "reporters" interviewing other "reporters", and passing them off as experts, the line has been crossed. CNBC/NBC are notorious for this practice, but they are all starting to do it.) individual and market psychology has changed to the point where doom and gloom have become a self-fulfilling prophecy.

The most fundamental reason for lowering interest rates is to create conditions that will stimulate economic growth. If it wasn't apparent last year that economic growth didn't need to be stimulated in any meaningful way, it should be now. This blog argued vehemently that interest rates should not have been lowered last year. The problems last year were a response to excesses in various markets (housing, credit, etc.), all interrelated to some degree. In the credit markets, the appropriate response would have been to put in place measures to increase liquidity. In fairness, that did happen, along with the sledgehammer of a lower Fed Funds rate. Housing was even easier. It was and is one of the few markets with too much supply. Prices and supply needed to come down. The market is in the process of doing that. Yes, it is painful, but it is the best way to bring the situation back to equilibrium. It can be argued, and is here, that if the Fed Funds rate hadn't been lowered, banks and other players funded by banks would have more incentive to restructure loans as they would not have had the Fed prop of paying out virtually zero on deposits.

Which brings me back to why rates need to be higher. All of those deposits earning nothing, in a normal stimulative phase, would start to be plowed into other markets in search of higher returns. That isn't happening because the negative psychologies of fear and loss have taken hold. The only funds flow that is occurring is out of losing markets into ones that are overheated, commodities for example. (For the last time, probably not though, the rules on commodity futures trading need to be brought in line with that of equities. I realize this isn't the Fed's bailiwick, but you would think that Ben Bernanke, student of economic history that he is, doesn't talk about the parallels between the Crash of '29, helped by overly liberal margin use in equities, and the current situation in commodities.) Despite rising inflation, investors are willing to accept zero return in exchange for safety. The cycle won't change until the inflationary bias is removed from the equation.

That brings me to my Independence Day wish. This problem can solved in reasonably short order if this country would put aside its differences, look at solutions objectively, be willing to work together and, most importantly, realize that there will have to be some sacrifice to get there. First and second, raise rates and change futures margin requirements. This will ease the pressure in the commodity and currency markets. Third, develop a comprehensive energy policy, one that increases near-term supplies AND focuses on long-term sustainable alternatives. (yes, this can be done) If there needs to be some kind of sliding scale carbon tax to encourage and foster this, then so be it. Fourth, provide certainty to the tax situation in this country. Perhaps if they would stop calling them the Bush tax cuts, Congress might be more inclined to make them permanent. Why this is still being debated is unbelievable!

The last fifteen years has been marked by a Congress doing whatever it can to bide time until a change in the Presidency. We can no longer afford that type of obstructionism/inaction. Whomever gets elected needs our support to do the right thing for the USA. That person also needs to put the needs of this country first.