Page 2 of 2 Self-inflicted US misery By Julian Delasantellis
media - beyond the newsrooms of the Manhattan elite, things are just fine,
right? Not exactly.
"The deteriorating outlook for sales, reduced credit availability, and downbeat
readings on business sentiment all pointed to further weakness in capital
spending in the near term. Real outlays for nonresidential structures also were
estimated to have declined in the first quarter. Indicators suggested that the
demand for commercial properties had fallen off substantially from record
levels last year, and commercial property prices appeared to be
decelerating. Reduced credit availability and less-favorable lending terms had
apparently weighed on activity in this sector."
With such downheartedness and despondency permeating the economic outlook, one
might be surprised to learn that the April 30 interest rate cut almost did not
happen, that it was, as the minutes described it, a "close call". But cut they
did, and now, like a sign on the highway that says that the next rest stop is
100 kilometers away, the Fed is telling everybody in the car to press their
legs together and hold it in, for this is the last relief they will see for
quite awhile.
"The Committee agreed that that the statement to be released after the meeting
should take note of the substantial policy easing to date and the ongoing
measures to foster market liquidity. In light of these significant policy
actions, the risks to growth were now thought to be more closely balanced by
the risks to inflation. Accordingly, the Committee felt that it was no longer
appropriate for the statement to emphasize the downside risks to growth. Given
these circumstances, future policy adjustments would depend on the extent to
which economic and financial developments affected the medium-term outlook for
growth and inflation. In that regard, several members noted that it was
unlikely to be appropriate to ease policy in response to information suggesting
that the economy was slowing further or even contracting slightly in the near
term, unless economic and financial developments indicated a significant
weakening of the economic outlook."
What is going on here is much easier to understand once you realize that, for
all the power, majesty, and glory of the Federal Reserve Board, its members
are, at the most basic level, just simple bureaucrats. Like all paper pushers
worldwide, they daily pledge their allegiance to the core creed of all
bureaucrats. This three-word creed has as its initials CYA, and, no, that does
not stand for cut young appletrees.
You say that inflation's a problem, as illustrated by the 35% increase in crude
oil futures prices this year alone? Don't blame us at the Fed; we've stopped
cutting. Unemployment rising? Don't blame the Fed, even in the face of the
significant inflation problem referenced above, the Fed is not deploying the
standard anti-inflationary artillery - interest rate hikes. Bernanke and his
board are like frightened soldiers keeping their heads down in the trenches of
World War I, but, instead of the squalor and filth of the Passchendale, they're
hiding out in the much more agreeable catered accommodations of their
oak-paneled conference rooms at the Marriner Eccles Building on Constitution
Avenue in Washington.
So the Fed's not going to move for a while, they're going to sit back and see
how things develop. This is not all that uncommon; the Fed did not make an
interest rate move for a year from mid-2003 to mid-2004, 18 months from early
1997 to the LTCM hedge fund crisis in September 1998, 17 months from September
1992 to February 1994. But those rate holds were very different circumstances
from today's. Then, the Fed was content to stand pat, for it saw things as
copacetic, that is to say, very satisfactory, and quiet, with no need for
intervention. That is far from the case today; now, the Fed faces two
contradictory problems. Since it can't decide which to face first, it has
decided to run and hide in a cave.
Obviously, what the Fed would like to do is let inflation and unemployment duke
it out, and the Fed will deal with the winner. Thus, if the recession proves to
be not so severe (a prospect that looks rather unlikely given the tone of the
meeting minutes), the Fed can move to raise rates to squelch the inflationary
threat; if inflation abates, the Fed can ignore it and return to rate cutting.
The absolutely worst possibility would be a continuation of what we are
currently seeing - both inflation and unemployment rising simultaneously.
They'll be a lot of pain, for an awful lot of people, involved in a protracted
fight against the 70s era villain just as terrifying as Darth Vader and the
shark from Jaws - stagflation.
A possible, but thoroughly unlikely and improbable, solution to this problem
might come in the realization that it is in only current custom that the US
Federal Reserve, and its monetary policy, has emerged as the solitary
government agency with policy discretion to deal with changing economic
circumstances.
Not all that long ago fiscal policy, the budgetary actions passed by the
Congress and signed into law by the President, was thought to wield a hammer
equally or more effective than the Fed in dealing with the economy's ups and
downs. In 1967, Lyndon Johnson pushed for a 10% income tax surtax to deal with
the inflationary effects of Vietnam War deficit spending. In 1981, Ronald
Reagan dealt with the stagflation that greeted him upon arrival in office
through his budget-busting tax cuts and defense buildup, while leaving Fed
chairman Volcker to fight inflation with high interest rates.
But it is in examining the historical results of these two events that the
drawbacks of using fiscal policy in the current political environment can be
seen. The Vietnam War surtax, like the war itself, was wildly unpopular; taken
together they both drove Johnson out of office in 1968. Congress and President
Reagan liked fiscal policy a lot more in 1981; they got to spend money, to
ladle tax cuts and government spending over their constituents like thick
country gravy.
That is exactly what is happening now. The US$307 billion five-year farm bill,
recently passed over one of President George W Bush's rare vetoes, rewards
American agriculture, the one sector of the US economy that due to increased
worldwide demand for food and the ethanol craze is emerging as a big winner in
the globalized marketplace. That, and measures such as the $160 billion fiscal
stimulus/tax rebate initiative, the proceeds of which the American consumer is
now being urged to spend on more imported Chinese home electronics, should
drive the US government's fiscal deficit to over $400 billion in fiscal year
2008, up from $162 billion in fiscal 2007.
In these circumstances, if it was acting in concert with the Congress, the Fed
should never have lowered rates to the extent and speed that they did. But if
it had not cut rates the amount that it had, the stock market probably would
have taken an additional 2,000 to 3,000 point haircut by now, leading the
American public to demand that Bernanke et al be moved in front of all the
al-Qaeda detainees for immediate appointments with the waterboarders at
Guantanamo.
At its heart, what is happening now is that American economic policymakers are
adjusting to a situation new to them, but very familiar to officials in other
countries - the fact that the fate of the economy under its charge is no longer
under its control.
In the 1950s and1960s, it was said that "when America sneezes Europe catches a
cold"; this was proven by the inflation that Western Europe imported from the
US in the late 1960s due to American overspending on Vietnam and the spending
on Great Society social programs. Today, the unemployment part of the current
difficulties may be due to the good old American greed and mendacity of the
subprime crisis, but the commodity-based inflation is being driven by increased
demand from the rapidly industrializing economies of China, India, Brazil and
others.
This factor, if it continues, may very well limit the severity of the slowdown,
but at the expense of the continued worsening of the inflation problem. If
these countries slow down, maybe as a result of China slamming down hard on the
brakes with interest rate hikes, inflation may recede, but so will the main
supportive force, exports, keeping the US economy from collapsing.
Either way, along with selling away controlling interests in hundreds of
American companies ( "My God!" they'll fulminate in Congress. "The Belgian
company that brews Stella Artois beer is eyeing Budweiser! They can take all
our high-tech industries, but our beer - never! Mr Speaker, I propose an
immediate boycott of Brussels sprouts!") and American government debt, America
has now apparently sold away the right and ability to control its own economic
destiny.
"Misery loves company" goes the old idiom, and, indeed, Americans do feel
miserable, with opinion pollsters reporting the highest-ever readings of
dissatisfaction with the current state and course of the country. But there's
little or no company. The rest of the world is just gently slowing if at all;
the China-India-Russia-Brazil axis is still growing like gangbusters. Like poor
Paul Sheldon helpless in bed, lonely misery is the worst, especially when the
country finally realizes just how self-inflicted all its misery is.
Julian Delasantellis is a management consultant, private investor and
educator in international business in the US state of Washington. He can be
reached at juliandelasantellis@yahoo.com.
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