August FOMC Statement Will Not See Much Economic Improvement

Tuesday, August 11, 2009

Gotcha! Stop immediately playing Klondike while waiting for the release of the Federal Reserve's Open Market Committee (FOMC) statement later on Wednesday.
Here comes a version that was not agreed on next to the fire place in the FOMC meeting salon but that may be as non-committed as the official version will be.
Observing that the FOMC has a tendency to use the respective last minutes as a base for the upcoming version I am not expecting too much of a change. As the Fed is on ZIRP (zero interest policy) auto pilot while fundamentals have not changed for the better in the current summer lull (calm before the autumn storms?) and one can expect that the introducing paragraph will not change very much.
From the June statement:
Information received since the Federal Open Market Committee met in April suggests that the pace of economic contraction is slowing. Conditions in financial markets have generally improved in recent months. Household spending has shown further signs of stabilizing but remains constrained by ongoing job losses, lower housing wealth, and tight credit. Businesses are cutting back on fixed investment and staffing but appear to be making progress in bringing inventory stocks into better alignment with sales. Although economic activity is likely to remain weak for a time, the Committee continues to anticipate that policy actions to stabilize financial markets and institutions, fiscal and monetary stimulus, and market forces will contribute to a gradual resumption of sustainable economic growth in a context of price stability.
On a macro level there are no events that changed this picture since June 24 in either direction.
Consumers who still hold a job are more focused to pay down their debts than to splurge again. The surprising retracement of the US unemployment rate to 9.4% (9.5%) last Friday has been unmasked as a statistical trick that results from a tilted birth-death model, seasonal adjustments in the car industry and other tricks to square the circle. Does it matter? Yes and No. As the US only estimates its armies of the unemployed and does not properly count them, the whole model is skewed at best.
More from the last release:
The prices of energy and other commodities have risen of late. However, substantial resource slack is likely to dampen cost pressures, and the Committee expects that inflation will remain subdued for some time.
Oil solidly over $70 a barrel may change this paragraph a little: Let's say like this:
The prices of energy and other commodities have risen of late despite ongoing sluggish economic activity. Given that oil holds up surprisingly well despite lower consumption forecasts the Committee nevertheless expects that inflation will remain subdued for some time.
The big joker will be the last para from the June statement as the Fed had then announced to print another couple of hundred billions to prop up mortgage markets, monetizing the debt in this market segment. If the Fed announces still more liquidity for ailing markets, the long end may see a sharp uptick in yields, currently at 3.75%.
One can be confident that the interest rate statement will remain unchanged:
In these circumstances, the Federal Reserve will employ all available tools to promote economic recovery and to preserve price stability. The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.
Not much to add to this. We can also remain confident that the Fed will, as always remind us that they are watching markets day and night. Alas, this did not help them to avert the crisis we are in.
Sorry Ben, you are about to lose the game with your limitless creation of fiat money. While all these new liquidity injections may have helped to keep short term rates at bay I cannot see how the Fed will ever be able to get rid of all these toxic assets on its 2 Trillion+ balance sheet, purchased at mark-to-fantasy prices without taking down those credit markets it hopes to keep stable with the poison of still more liquidity.
Actually markets may have a much more vital interest in the following questions, that will certainly not be answered in either the statement or any other release of the Fed.
Whatever the Fed will release tomorrow; take it with a grain of salt. After all, chairman Bernanke once had elaborated that the FOMC meetings should be on live TV. Given its secretive posture regarding the 4 questions above I am not convinced that we will see the necessary changes in information policy that would be needed to reinstate trust in the world's biggest central bank.
This is the mess that Greenspan made and history reserves a sad place for Bernanke, whether he likes it or not.


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