Wikinvest Wire

Baum to Fed: Potholes Ahead

Tuesday, December 15, 2009

As the central bank begins their deliberations in Washington, Caroline Baum looks back at those fateful summer days in 2007 when Fed chief Ben Bernanke heeded the calls of CNBC's Jim Cramer, promptly jumping off of the inflation bandwagon and embarking on a rate slashing campaign that must have made even former Fed chief Alan Greenspan blush.

Travel back with me to the Fed’s abrupt about-face in August 2007. Policy makers convened for their regularly scheduled meeting on Aug. 7. The statement they released cited inflation as the “predominant policy concern.”

Ten days later, the Fed lowered the discount rate by 50 basis points and issued a statement saying the “downside risks to growth have increased appreciably.”

Just like that. No mention of inflation. “It’s unusual to restate the statement,” JPMorgan Chase & Co. economist Jim Glassman told me at the time. Yet here were 10 days that shook the Fed into doing just that. Less than a month later, the Fed embarked on a series of rate cuts that lowered the funds rate from 5.25 percent to its current zero to 0.25 percent.

Even if the Fed’s forecast is accurate this time around -- and that’s a big if -- the road to neutral is dotted with potholes.
Maybe "paved with potholes" would be a better assessment. Yes, now it's getting interesting for the Fed after some surprisingly good economic reports in recent weeks and a potentially hot year-over-year reading on inflation scheduled for release tomorrow six hours before the central bank's policy announcement. In the U.K. today, they reported annual inflation at 1.9 percent, a far cry from the "deflation" scares we've been hearing all year.

Of course, whatever the Fed does this time around is sure to be complicated by efforts in Congress to either audit the central bank or end it. As Caroline correctly notes, selling the $1.25 trillion in mortgage backed securities they've been accumulating (or, perhaps, just bringing their purchase program to an end) will not likely be greeted warmly during an election year since Congress "never let anything stand in the way of a home purchase, including the ability to service the debt."

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