Careful Where You Point - The Fed May Have This One Right

Given the deteriorating state of the economy, it has been easy to point a finger at Fed officials – past and present. And although the Philly Fed manufacturing index relayed more bad news yesterday, the Fed could actually be on time here.

Looking at the past two recessions, the Fed funds rate appeared to lag (by 6-9 months) the actual down turn in manufacturing. This time around, although not in direct correlation, interest rates appear to be declining with the slow down - rather than a few months after it. This suggests (to me anyway) that low interest rates could revive the economy in time to side step a recession.

However, there are plenty of impediments in the way of that outcome, such as tight (but not locked) credit markets, rising mortgage rates, a housing tail spin, and a subsequently weakened consumer. But it’s quite possible that with one or two more rate cuts, steady demand for American goods overseas, and a housing market that can find some life in the spring due to attractive mortgage rates, 2008 might turn out to be much better than anticipated.

In either scenario, data in the next few months will send this skittish market aggressively in one direction; a barbell portfolio at this point may turn out to be wildly profitable – whether the Fed is on time or not.

Comments

[David Lentz]

You might be right -- if this recession were the result of manufacturing inventory imbalances, or wages getting out of balance with prices.

But this recession is due to the implosion of housing credit, and the spread of that conflagration into the rest of the debt markets. All that came to a head many months before the Fed began to change rates.

The Fed has maintained its usual lag in responsiveness this time around, waiting until the roof burst into flames, making sure that there really was a fire, before opening the spigots and pumping water onto the charred ruins.

Nothing new here.

[01GTvert]

This author's a paid shill. Housing will continue to devaluate well into 2009 and we haven't even begun the consumer credit crash yet.