When the Fed announced last week that it was dropping the word "caution" from its future guidance, an anticipated "next shoe to drop", rising interest rates, became momentarily inconsequential. But was the crisis really averted?
Although
it was hardly a surprise that they affirmed their bias to let rates rise, it is
becoming necessary in this observer's opinion to let it happen sooner rather
than later. Perhaps not at this very moment,
at this time, but soon, very soon.
As
a result of the Fed's pronouncement, stock prices soared immediately afterwards
but had been bracing for several weeks prior for the rate changes it knew were
coming, bouncing around at the apex of this current bull cycle and causing
investors a great deal of heartburn in the process.
Why
all the volatility? Because investors
have been feeding at the Fed's trough for quite a long time, and have gotten
used to a steady, almost linear, upside bull pattern. The main reason for their optimism had been a
no impediments/no holds barred
monetary environment reminiscent of policy in the pre-recession run-up just
before the credit crisis. The fact that financial
authorities worldwide had given them no reason to be worried about the spigot
of largesse being turned off only intensified this imaginary sense of
invulnerability.
However,
we know that down the line reality will be coming home to roost. It certainly is not the responsibility of the
Fed, or any other money agency, to manage our "feelings", but rather
their role is to coordinate the money supply and the opportunity curve that
leads to and maintains growth. To that
extent, we should be mindful of their advisory describing both their comfort
with, and concerns about, the current trajectory of financial assets.
In
case you haven't noticed, stocks are on pace for the third best bull market
recovery ever recorded.
Worse
or better?
Besides,
if our feelings can be hurt this easily simply by an indication of a change in monetary policy, what might occur when
rates actually do start going up? I would like to think that logic and calm would
prevail, recognizing that higher interest rates might also provide an
alternative investment scenario that would be good for investors in the long
run.
Despite
a huge gap in the distribution of wealth between rich and poor, the valuation expansion
in financial securities has increased the money supply dramatically. While the
rate of appreciation might be unsustainable indefinitely, we must be aware
that monetary strategists and policymakers are finally prepared to offer some
resistance to this never-ending upwards spiral.
I
also find it disconcerting that the wealthy seem to be hoarding money rather
than spending it on capital projects that could accelerate economic development. There is very little data to suggest that a
majority of this recently created capital gain is aggressively making it back
into the economy. As a result, we as
consumers, and the Fed as well, are caught in a conundrum between disinflation,
in which unmet expectations and overproduction is driving prices downward, and insidious
inflation in goods and services (e.g. food, commutation, education, healthcare,
habitat) that is posing a threat to the sustainability of a recovery. It isn't just the well-to-do, however, who
aren't spending, nor should they shoulder all the blame. Instead, our data indicates a widespread
confidence gap that causes everyone to sit back and wait. Another reason why the Fed delaying
implementation of a tightening policy is just postponing the inevitable.
While
inflation factors selectively permeate into our cost of living, they also
reverberate into others segments of the economy, such as cyclical
(discretionary) spending and materials. The latest data show that cost increases are having a much more
debilitating impact upon consumers than any cost
reductions might be benefitting them.
If
these negative effects become too pervasive, the stock markets themselves might
be next to suffer. Part necessity, part
casino, Wall Street is already largely inconsequential in the lives of the
average citizen just trying to get by.
By
contributing to the factors which have allowed for this prolonged period of
linear upside mania, the Fed has already contributed to its share of the
damage. "Cheap money" sounds
like a great idea, doesn’t it? Who wouldn't
want to borrow money at zero percent interest?
The issue, however, is whether that cash circulates into the system or
simply applies to paper profits and speculative trading. Let's hope we can discern the difference and
do something intelligent with our answers.
