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By Jim Jubak
Do the members of the Federal Reserve think we're stupid? Do they think we don't understand that their quick fix for the economy and the financial markets in 2008 is going to completely unravel in 2009?
Do they think we can't see that they're setting up the economy and the financial markets for a replay of the bust-to-boom-to-bust cycle that followed the bursting of the stock market bubble in 2000, in which easy money created a housing bubble that has now burst?
The Fed's actions of the past five months are going to lead to higher inflation or higher interest rates (and a slowing economy again) in 2009. Apparently the Fed doesn't think we can read between the paragraphs of its Jan. 30 press release and see that coming.
Here's what the central bank's Federal Open Market Committee said in that press release when it cut its short-term interest-rate target to 3% from 3.5%: "Financial markets remain under considerable stress, and credit has tightened further for some businesses and households. Moreover, recent information indicates a deepening of the housing contraction as well as some softening in the labor markets."
That's a straightforward explanation for why the Fed decided to cut interest rates an additional half-point after cutting by three-quarters of a percentage point Jan. 22 -- a total cut of 1.25 points in roughly a week.
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The economy is slowing, the Fed says, and banks and other sources of capital are still so nervous that they're making fewer loans. The housing market is getting worse, and so is the jobs picture. It looks like people who have lost their jobs are having trouble finding new ones. So to prevent a slowdown from turning into something worse -- such as a full-scale recession with a rise in loan and bond defaults from corporate borrowers that would panic the financial markets -- the Federal Reserve is aggressively cutting rates.
"Today's policy action," the Fed went on in the press release, "combined with those taken earlier, should help promote moderate growth over time and to mitigate the risks to economic activity."
It's the one-sentence paragraph before it that gets my goat: "The Committee expects inflation to moderate in coming quarters, but it will be necessary to continue to monitor inflation developments carefully."
Policy might work in 2008
I understand why the Federal Reserve expects inflation to moderate in the next few quarters. If the U.S. economy is slowing in 2008, that's exactly what you'd expect in most situations.Slower growth usually means less upward pressure on prices and wages because there's excess capacity at factories, more supply than demand for raw materials and more people looking for work. With gross domestic product for the fourth quarter of 2007 showing annualized growth of just 1.9%, it's reasonable to think that inflation might head down this year.
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Jubak's Journal: Bounce or serious rally?This week determines whether the stock market's gains at the end of January were a bounce or a serious rally. The Fed's interest-rate cuts hurt the market's chances because they increase odds that US banks will get stuck with $70 billion in buyout loans, says MSN Money's Jim Jubak.
Reasonable -- but by no means certain. At the consumer level, headline inflation, which includes energy and food prices, hit a 17-year high in 2007 as the Consumer Price Index climbed 4.1%. That's way above the Fed's 2% inflation target. The core inflation rate, which excludes food and energy prices, climbed 2.4%, also above the Fed's target. So even if inflation moderates, the final result might still be above the Fed's comfort zone.
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