The Incredible Shrinking Interest Rate: What's Next for the Fed?

Well, you've probably heard about the Fed slashing its key interest rate by 0.75% to historic lows, with the federal funds rate (the interest banks charge each other on overnight loans) now hovering between 0.25% and zero.

The prime lending rate used to peg rates on home equity loans, certain credit cards and other consumer loans should move lower, which could help you as a consumer if you’re a borrower. However, a 30-year fixed rate mortgage is still 5.53%, a car loan more than 6%, a home equity loan more than 8% and credit interest rates more than 14%.

So don't hold your breath that you'll actually benefit from this Fed move. It's designed to help the banks and other large institutions, not you.

Right now we seem to be seeing some deflation as consumer prices have fallen by a record 1.7% in November as energy prices retreated, while home building plunged by the most in 25 years, according to recent government reports. So it appears that the Fed is gambling that it can turn on the money spigots long enough (and only long enough) to arrest future deflation without triggering rampant inflation down the road.

Uncharted Fed Territory Ahead

But with this unexpectedly aggressive move, the central bank has moved into uncharted territory. And it claims that it has plenty more weapons to fight the ongoing crisis. Exactly what tools those might be, it hasn't said.

Not really the most inspiring plan, is it? Here's how the dollar has responded to the Fed gutting one of the primary reasons to hold a given currency:

It would seem that the market agrees that this will ultimately damage the dollar’s buying power (along with up to $9 trillion currently being wasted on “stimulus” plans and “rescue” packages for politically-connected industries). To put things into perspective, the Fed's balance sheet has ballooned to $2.2 trillion from to $900 billion in September. This is not the sign of a problem that’s under control.

So the dollar is in freefall. It’s already at a 13-year low against the yen, and it's falling against the Euro once more. Gold, the ultimate safe haven from paper currency shenanigans, is also rising sharply. Gold is now up for the year (approximately 1%) which is more than any other asset class the Fed has been "managing" into oblivion.

The upshot of all this is that government is muscling its way into the private economy, a lot like a Mafia family squeezing out the competition. Apparently capitalism has "failed" and Big Brother interventions are needed to save the system.

The End Or A New Beginning?

So is the end of American global hegemony or not? Many people now anticipate that America's financial (and other) influence will be diminished by the crisis. Diminished relative to whom is the real question, though.

After all, virtually every economy on the planet is being hit hard by this ongoing crisis. The Dow's near 40% plunge this year actually makes it a top performer relative to other broad indices. And oil producers, with whom America frequently locks horns, are reeling from the collapse in oil prices.

The US is now the only remaining major borrower who can issue thousands of billions of dollars in debt at record low rates. Lenders are unwilling to lend to almost anybody who doesn't answer to the name "US Treasury", and this allows the government to continue to run an ever-larger current account deficit and grow an ever-deepening national debt without fear that rest of the world will stop funding it in the immediate future.

There is a definite downside, though. The government is already well-addicted to spending (and spending some more) with no real sense of responsibility. This will not help them kick the habit and they (and extension you!) will be even deeper in the hole than where they started.

Plus the dollar will probably be in the toilet as an added “benefit”. This monthly chart of the US Dollar Index shows what appears to be a bear market rally, not a true bottom.

Regulatory Failure Runs Rampant

Disgraced investment manager Bernard Madoff was apparently operating one of the biggest Ponzi schemes ever and stole $50 billion from high net worth investors and institutions.

Where were the regulators during all this? Napping on the job, it seems, for an entire decade. They never bothered to launch a formal investigation that would have forced Madoff to surrender documents under subpoena. Instead, they relied on information voluntarily produced by Madoff and his firm even though credible allegations against his conduct reached back to 1999 and even earlier.

What's more, it's now known that Madoff kept several sets of books and false documents and provided false information to investors and to regulators.

If the SEC can't figure this out, then why are they being paid? Why do they even exist? It's not like this is the first significant error they've made. The agency's "oversight" of the big Wall Street firms was a joke.

Certainly many in the private sector were highly suspicious of Madoff as they felt it was impossible for him to be legally making the kinds of returns he claimed.

After all, hedge fund investment adviser Aksia LLC warned clients not to put their money with Madoff after learning that his books were audited by a three-person accounting firm (this included one partner in his late 70s who lives in Florida, a secretary, and one active accountant).

Aksia also noticed that Madoff's trading strategy appeared "remarkably simple," and yet "could not be nearly replicated by our quant analyst."

If a hedge fund can do some due diligence and spot a almost-certain fraudster, why can't the SEC?

So please excuse our skepticism that more government “regulation” and “oversight” is going to save the economy from itself. The same fools that blindly led us into this mess are not the ones to lead us out of it, even if a few cosmetic personnel changes are made as President-Elect Obama moves into the White House.

Disclosure: No positions.

Comments

[PacificGate...:]

The changes on credit card legislation will have absolutely no real impact on consumers and their use of credit cards.

JUST LISTEN TO BERNANKE …
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pacificgatepost.blogsp...
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Issuers will continue to be abusive of all card holders.

2008 Dec 23 02:57 AM