Day: September 16, 2008

Redacted Version of the FOMC Statement

Redacted Version of the FOMC Statement

Posted on by David Merkel

The Federal Open Market Committee decided today to keep its target for the federal funds rate at 2 percent.

Strains in financial markets have increased significantly and labor markets have weakened further. Economic growth appears to have slowed recently,activity expanded in the second quarter, partly reflecting a softening of householdgrowth in consumer spending. and exports. However, labor markets have softened further and financial markets remain under considerable stress. Tight credit conditions, the ongoing housing contraction, and some slowing in export growthelevated energy prices are likely to weigh on economic growth over the next few quarters. Over time, the substantial easing of monetary policy, combined with ongoing measures to foster market liquidity, should help to promote moderate economic growth.

Inflation has been high, spurred by the earlier increases in the prices of energy and some other commodities.commodities, and some indicators of inflation expectations have been elevated. The Committee expects inflation to moderate later this year and next year, but the inflation outlook remains highly uncertain.

TheAlthough downside risks to growth andremain, the upside risks to inflation are bothalso of significant concern to the Committee. The Committee will continue to monitor economic and financial developments carefully and will act as needed to promote sustainable economic growth and price stability.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Christine M. Cumming;Timothy F. Geithner, Vice Chairman; Elizabeth A. Duke; Richard W. Fisher; Donald L. Kohn; Randall S. Kroszner; Frederic S. Mishkin; Sandra Pianalto; Charles I. Plosser,Plosser; Gary H. Stern; and Kevin M. Warsh. Ms. Cumming voted asVoting against was Richard W. Fisher, who preferred an increase in the alternatetarget for Timothy F. Geithner.the federal funds rate at this meeting.

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Of Note:

  • No move, they are happy with the current policy.
  • Even Richard Fisher is happy with the current policy.
  • They will monitor economic and financial developments “carefully” now.
  • They see greater weakness in economic growth, labor markets, export growth, and the financial markets.
  • They are puzzled about inflation; they think/hope it will decrease soon.? (Watch for a surprise in the third quarter GDP deflator that undoes the surprise in the second quarter.)

The markets seem to be taking it in stride.? I’m glad they didn’t cut; perhaps they’ve learned something from the emergency cuts that they sterilized by not letting the monetary base grow much.? Sterilized interventions don’t do much.

Witnessing History

Witnessing History

Posted on by David Merkel

I would like to post more at present, but my family and work have kept me busy.? A few notes:

  • There have been many who have suggested that FAS 157 (or 159)? is to blame for the current crisis.? Sorry, but that doesn’t fly.? The trouble does not stem from the accounting, but from the rotten investments.? High-quality liquid investments do not have problems getting priced for reporting purposes.? If you can’t get a liquid price, there is a reason for that.? Prices in illiquid markets jump around — that is a rule.
  • AIG might survive if? banks that face a lot of counterparty exposure decide to lend to them to minimize their own losses.? At this point, it looks unlikely, but it is possible that banks that would have large credit exposures to AIG would make a loan to AIG.? One other note, the $20 billion loan from their subsidiaries appears to be contingent on AIG getting significant help from other sources of financing.? No link, but from Bloomberg — ? “AIG hadn’t gotten access to the New York lifeline as of about 10:30 a.m., said David Neustadt, a spokesman for state Insurance Superintendent Eric Dinallo.
    “It would be part of a broader deal,”? Neustadt said. “If there’s no broader deal, then it doesn’t happen.” The regulators didn’t say yesterday that access to the cash would require such conditions.    “
  • So what does the FOMC do today?? My guess is that they loosen 25 basis points, or do something that gives an expectation of expanding the monetary base.? I suggested that this might have to happen last month, when I saw credit stress continuing to build in the banking system.
  • That said, the FOMC could stand pat, and offer to take in lower grade collateral via tri-party repos in order to help keep marginal instituions afloatt, while leaving the monetary base flat.? That’s been their default policy for the past year, and it may have delayed some of the credit stress, but it has not solved the basic problem of too much bad lending.? Not that the FOMC can solve it without buying all the bad debt, and extinguishing it in a burst of inflation.

We ask too of the Fed in bad times, and in good times, we don’t ask them to restrain the banks as much as we ought.? The problems we face today stem from the monetary and banking laxity from the mid-90s to 2007.? There’s a lot of bad debt out there, and no easy way to change it.? We are witnessing history now, as leverage collapses in big complex institutions, and in small places too (home mortgages), and we realize that even the government is too small to deal with the problems that they let grow for over a decade, and we didn’t care while the good times rolled on.? At present, the main open question is whether the defaults are big enough to trigger another wave of defaults.? As for that question, I don’t know the answer, but will try to gauge the risks as time moves on.

I will post later after the FOMC statement.

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