Matt Nolan

Do US rates need to fall again?

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What do we have here, the Fed has lowered growth and inflation forecasts, Freddie Mac (a US based mortgage finance company – think subprime mortgages) suffered record losses, Citibank and Bank of America struggle with credit concerns, and the MIT real estate center recorded a fall in commercial property prices (and the first fall in commercial property values since 2003). On the back of this, the Fed feels the decision to cut rates again is on a knife-edge, with market sentiment pointing to a fall.

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jamesz

Jocks don’t trust geeks?!

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This is why I don’t believe people who claim that overcoming one’s biases isn’t important. David Romer gives a football coach solid evidence that he could win more games by running or passing on fourth down and what happens?

“It used to be that going for it on fourth down was the macho thing to do,” Romer said. But after his findings were widely publicized in sports circles, he said: “Now going for it on fourth down is the egghead thing to do. Would you rather be macho or an egghead?”

Yeah, they STOP running and passing because that would be the ‘geeky’ thing to do! Now that’s an example of a seriously costly bias if ever I heard one.

The article quotes Wayne Stewart, an associate professor of management at Clemson University, describing this as a principal-agent problem: the team owner wants to win games but the coach just wants to avoid risky plays that might make him look bad. Or geeky plays that might get him a ribbing at the bar after the game, apparently.

Matt Nolan

Fed cuts rates to 4.5%, has a GDP surprise

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So the Fed cut rates to 4.5%, and the US commerce department released a GDP estimate of 3.9% annualised growth (about 1.0% quarterly growth).

That growth figure was on the back of another negative contribution by the residential construction market, and was thanks to exporters and consumers. The Feds tone was relatively neutral, giving everyone the feeling that, bar a big shock, interest rate cuts are done for now.

What does this mean for little old New Zealand, higher world demand, higher commodity prices, and a higher exchange rate. Pretty much 🙂

Matt Nolan

Fed cuts rates to 4.75%

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I don’t have time to say much, but I will say that the Fed’s decision to cut rates 50 basis points was silly. They are pretty much telling the market that they will bail them out when the shit hits the fan from taking on overly risky investments. Although this decision may forestall a recession in the US, how many future recessions will be the result of the relatively new Fed governor Ben Bernanke showing that he will follow the whim of the asset market.

People are comparing this situation to 2000/2001 when Alan Greenspan cut rate significantly to stop a recession. If this was even true it would be an indictment of today’s decision, as in some ways the ease with which rates were cut in 2000/2001 lead to the asset bubble we are now facing.

However, todays decision is even worse than the 2000/2001 decision, as inflationary pressures are HIGHLY elevated. A good central bank should first and foremost control inflationary pressures. However, it seems that many central banks are starting to forget their primary goal.

Matt Nolan

Has the Fed cut rates without telling anyone

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Greg Mankiw noticed that the Fed target is still 5.25%, however the effective rate in August was only 5.02%.

This is interesting, in NZ you could not do this as the Bank is willing to release any amount of money for a given interest rate (that is what our OCR target implies), the constraint in this case is money demand. In American they have a Federal Funds rate, which acts as there target rate. However, they also target a certain money supply level and use open market operations to get there.

Now you can’t arbitrarily choose the combination of the price (interest rate) and quantity of money in the market place, it depends on money demand. As a result, the Fed can only truly control one of these variables, as if they want to hit their target rate there is only one level of money supply that will allow it (given a strictly downward sloping money demand curve).

According to Mankiw, the Fed is pretty good at choosing the right amount of money supply so as to achieve the Federal Funds rate. By deviating from this they are loosening monetary policy, even if they haven’t said they have. The fact that the Fed has control of money supply as well as money demand allows them to be loosen monetary policy quickly without making the market feel like they are. However, it makes them less transparent, which in the long run is not a good thing.

Matt Nolan

Was Greenspan a big softy

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Yves Smith think so. His argument is that, even though we didn’t fully appreciate it at the time, Greenspan really really cared about equity markets. He was scared of them, and he didn’t want to go out there and nail them as much as he should have. By being ‘hostage’ to the equity markets, Greenspan surrendered some of the Central Banks integrity. He gave up the hard arse, anti-inflationary image of the Central Bank that Paul Volcker had created.

I’m not sure I agree completely, I mean Greenspan did have the ability to keep inflation in the bag for 19 years. However, his unclear style of speaking and his refusal to target a clear level of inflation did create unnecessary uncertainty in the marketplace, and to some degree, may have damaged the inflation fighting power of the Federal Reserve.

A Reserve Bank governor needs to be a clear speaker, who finds the mere idea of inflation repugnant. That is why Don Brash did such a good job.