Some additional thoughts ahead of the FOMC meeting

Tuesday, May 03, 2005

Before the world starts spinning to the tune of Alan Greenspan and his divided allies in the Federal Open Market Committee (FOMC) later today, I want to add a few additional thoughts about the possible result of the discussions of the high priests of ever expanding credit. Given the nervous feeling one can smell even from such distant places as Austria, the FOMC may get ever more divided about the future course of interest rate policy. But because of the nervousness in the air they will be unified in achieving one goal: Calm the markets, calm the markets, calm the markets.
The sharply rising volatility in daily trading in both the share and the bond market spells no good for the near term future. Greenspan, who has the best track record of all Fed chairmen, will not want to ruin his reputation as the men who fabricated the longest economic expansion in the last 100 years 273 days before he retires. Although he maintains his stance that bubbles - and there are quite a few, summed up in this post - cannot be detected even after they have happened, his widely televised view has to be highly doubted. Given his outstanding intellectual and rhetoric capabilities in testimonials the whole financial world follows on live TV - thanks to Bloomberg and Reuters - where he never gave himself away to any comments only slightly arousing market participants suspicions of some kind of uncertainty in his thinking, the wording of the FOMC decision is guaranteed to keep this tone of fatherly confidence that has stabilized markets over the last years despite the sharp economic downturn at the beginning of this millennium that was stopped at breakneck speed in the latest downward phase of rates.
But as most recent economic figures are pointing to more difficult times ahead, I refer to
this, this, this and this post, it will be become awkwardly complicated to keep the markets on a stable route without burdening the government with too high future interest payments and still maintain some value for the backed-by-nothing greenback and all the while preventing a choker for the economy.
The declining dollar may have its positive side for the Bush - and following - administrations. With a plunge of more than 40 percent against the Euro and a remotely better performance versus the Yen, the USA have already inflated away a sizable chunk of their debts that have propelled them to the status of the most indebted nation in history. This is also the reason why they are urging China to revalue the Yuan/Renminbi as this would be the easiest way out of the mounting deficits they have been building up with the far eastern giant. China will not let the US relieve itself of its obligations by such an easy way.
Further devaluations of the dollar could also lead to the possibility of outright hostility between the nation with 8,000 billion dollars outstanding debt by the end of 2005 and its creditors which got assembled from the industrial powerhouses of this globe. Japan has the most to lose. Germany, Korea, Taiwan and China will also want to avoid a fall of the dollar that could crush the whole world economically and destroy more or less everybody's wealth and retirement savings since roughly 80 percent of all savings and investments are denominated in the ailing greenback that is in the process of losing its spine.
Soaking up other analysts views on the dollar problem I notice that all are very good at defining the problems. But I have not seen one projection how the crisis that is around the corner can be solved.
It can be pushed further into the future after Greenspan's retirement. But comments from Ben Bernanke, who once said, if necessary he would drop dollars from helicopters to keep the economy going, do not exactly promote confidence in the rapidly growing mountain of debt papers that float from one investor to the other in frantic trading. Bernanke might have discredited himself already with this and his other infamous statement about America's (not so) secret economic weapon, the (electronic) money printing press that stands ready to be revved up in order to provide ever more liquidity in the case of market instability. But any other choice than the former economic professor will be a loyal Bush-princeling that will not be able to maintain the independence of the Fed as his master will want to save his presidential reputation at all costs. Costs that will burden generations to come.
This concept will not work forever. Paydays have come in the past and will come again in the future. But then they will be called financial crisis if the Fed does not come up with a firm hand on money policy. Greenspan has the freedom to begin this process because of his seniority and the credit he enjoys in the financial world. His successor will be under the thumb of an administration that has very good experience in slaughtering non-conformers.
Having no other recipe than to keep the looming and seemingly inevitable crisis as short as possible by tightening now at a much faster pace than can be expected from the Fed, I would not want to be in the shoes of any of the FOMC members this afternoon.


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