Fed's Rate Cut Will Lead to Stagflation

We would have liked to see a 25 basis point cut. We wanted to take a few days to think about what had transpired before posting. Luckily, the most recent inflation numbers came in below expectations, but initial claims dropped as well. What's a central banker to do? In the short term we believe the Fed moved with 50 BP to shore up against current investor nervousness in the market.

It is still our firm belief that an economic pullback would be good for the long run growth of the economy. We don’t see rates falling much further. Bernanke laid it out in Germany (see post). We quote:

Current account imbalances can help reduce tendencies toward recession, on the one hand, or overheating and inflation, on the other. (Bernanke in Germany)

If that is the case, look what has happened to commodities across the board since the rate cut. Additionally, there has been a sell off in treasuries, save high yield. Let's stop here for a minute. We were always taught that when rates go down bond prices go up. As always, there seems to be exceptions to the rule. This case being expected inflation.

Now lets look at high yield for a minute. We had talked about purchasing the High Yield Bond (HYG) ETF not to long ago. It has rallied over 6% since we started talking about it. Does this mean the bond market has stabilized? The answer is almost. Commercial Paper still seems to be shrinking. We only see one thing developing at this point in time:

STAGFLATION

Comments

[Brian Croner]

Yep. High unemployment and high inflation. Then recession. I guess if the Fed didn't drop the rate by half a point, hedge funds would have died real big time pretty quick. So inflation is big. Forestall the effects: weak buck unable to outsource and eliminate domestic worker power. So long as workers have no power, the propertied class, as maintained by the government state, continue their power. Rome again, with an unsuccessful expansion of capital oil territory into Iraq. Losing capital territory worldwide. And all these foreign loans the government depends on are payable in US Dollars by the government, which implies expansion of monetary supply considering the quasi-stagnant state of what I feel is a dying economy. My conclusion is the US Dollar doesn't work.

[fodi MD.]

WE already have stagflation