Sunday, March 22, 2009
Maybe I'm missing something here, but what appears to be the new conventional wisdom of managing inflation expectations through massive amounts of newly printed money used to purchase inflation-protected Treasuries has an "unholy" feel about it.
This view has been seen elsewhere in recent days (see this item from last week) and it showed up again in this Wall Street Journal report($) where Mihir Worah, a fund manager at Pimco, noted the following:
By buying TIPS, Mr. Worah says the Fed wants to curb the risk of persistently falling consumer prices, or deflation, by putting a floor on the break-even rate, the yield spread between nominal Treasurys and TIPS. The gap is a gauge of investors' inflation expectations and is closely watched by the Fed.This is remarkable - the "management" of inflation "expectations" by printing money.
"The Fed understands that they need to keep inflation expectations on the positive side," says Mr. Worah. "The Fed will step in to buy TIPS if it [the break-even rate] falls below a certain level, which makes investing in TIPS safer than it was."
What will they think of next?
Well, let see.
The other major gauges of inflation "expectations" come from the Conference Board's Consumer Confidence Survey and the Reuters/University of Michigan Consumer Sentiment Survey and, given the dizzying array of prices with which consumers are confronted in attempting to gauge the current rate of inflation, their assessment almost always boils down to which way the price of gasoline is moving.
As former Fed chairman Alan Greenspan once lamented, these prices are too easily and too regularly observed by individuals for their own good (or something like that).
So, if the oil price continues its recent ascent, a possible next step for the Federal Reserve might be to somehow use some of that freshly printed money to keep the price at the pump in check. Can you short the mammoth United States Oil Fund, said to hold about a quarter of all crude oil futures contracts?
Alternatively, if the oil price plunges back toward $30, they could start buying oil futures.
OPEC would love that...
This week's cartoon from The Economist: