The fleecing of Main Street by Wall Street, it was declared last Tuesday, can go on unabated as the Federal Reserve voted unanimously to cut the fed fund rate and the discount rate by 50 basis points each. Consensus opinion had expected the Fed to cut only the fed fund rate and only by 25 basis points. The dual action therefore was bold and dramatic, and it received an equally bold and dramatic response from the community of paper millionaires around the world (otherwise known as financiers, bankers and hedge fund managers) who bid up global stock markets by 3% or more in less than 24 hours.
Going for the SuperPut
Before the Fed intervention and for a period of a few weeks, it seemed like the chicken had finally come home to roost and that the obscene excesses in lending and speculation would be punished by market forces. But the Nanny Fed flew to the rescue and essentially interposed itself between the ultimate objective jury, the market, and the thousands of miscreants holding billions in paper that they barely understood. This affront to the free functioning of the market is not new and became quite fashionable under Alan Greenspan's Fed. And yet, despite his frequent interventionism over the nearly twenty years of his tenure, Mr. Greenspan enjoys a personal mystique and reputation as a deft operator.
And it is an interesting coincidence that this hubbub is taking place at the precise time that Mr. Greenspan has reappeared on television screens. He is in fact ubiquitous nowadays as he is promoting his new autobiography 'The Age of Turbulence'. It is perhaps unfair that Mr. Greenspan would occupy the headlines at this time of crisis when all eyes ought to be on the other, incumbent, Fed Chairman. But with his dual interest rate cut, Mr. Bernanke has regained center stage as he has set out to prove that he too can handle turbulence and that if there once was a Greenspan Put, there is now a Bernanke SuperPut. Fed Chairmen are supposed to be boring and barely visible. And the presence on the same television newscast of two Chairmen vying for our attention is a bit of a circus and is perhaps a worrying sign in itself. What have we come to?
Fed Policy for Millionaires
The wild show of the Fed cavalry riding to the rescue with all guns blazing will have undesirable effects. Chief among them:
- A super-bubble in the commodity sector as the economy regains momentum. There is a neat symmetry between the Clinton and Bush years, with the one ending with a bubble in intellectual property assets (media, internet, Wall Street, etc) and the other likely to end with a similar bubble in hard property assets (metals, oil, gas, food commodities, Wall Street again). Mr. Clinton was a friend of the media industry in the same way Mr. Bush is a friend of the oil industry. They both did a superb job helping their friends enrich themselves.
- A further erosion of the value of the dollar vs. the Euro and other currencies. Interviewed on the CBS show 60 Minutes, Mr. Greenspan was asked if he would hold dollar assets and he responded that he 'would diversify'. Since most Americans have close to 100% of their assets in dollars, this is really an advice to sell dollars. But holding debt (mortgage, credit cards, car loans, school loans) in dollars and investing in non-dollar assets is a high risk strategy for most people. An advice to diversify into other currencies is an advice for millionaires, something akin to Marie-Antoinette's 'let them eat cake'. The vast majority of Americans are stuck with the dollar, and will be worse off after the Fed cuts.
- The combination of higher commodity prices and a weaker dollar will accelerate the rate of inflation in the United States and the Fed will have to reverse course and hike rates before long if it is serious about price stability. The Fed likes to look at the consumer price index (cpi rate of inflation) excluding food and energy. But food and energy prices amount to a significant percentage of an average household's monthly expenditures and these prices are rising nearly across the board.
- The poor alone will bear the financial burden of the subprime market collapse while paper millionaires will emerge unscathed and can look forward to another good year. The enormous collective sigh of relief on Wall Street reveals once again, if there remained any doubt, the vast chasm between the centers of finance and the daily concerns of Main Street.