10.01.2008 0

A Ray of Sunshine

  • On: 10/14/2008 15:41:41
  • In: Monetary Policy
  • At its highly anticipated two-day meeting, the Federal Reserve Board of Governors finally did something good: Nothing.

    At last putting a stop to its excessive interest rates cuts—which were designed to stimulate the economy through the sub-prime mortgage crisis and the housing slump—the Fed held the Federal Funds Rate steady at 2 percent. As ALG News predicted months ago, those excessive rates cuts were going to result in spiraling inflation. And they did.

    Back in March, oil was trading at about $100/barrel. Today it’s up to about $135/barrel. Just a note: Back in August 2007 when the sub-prime crisis hit and the Fed began its latest round of rate cuts, it was about $70/barrel.

    It proves the point: Oil—which is priced in dollars—has nearly doubled in a single year as the dollar has concurrently weakened. Essentially, the cheap credit overly-boosted the world’s money supply, which always causes inflation. There’s a lesson to be learned here.

    And it seems the Fed has belatedly caught on to the problem. In its statement yesterday, it wrote, “[I]n light of the continued increases in the prices of energy and some other commodities and the elevated state of some indicators of inflation expectations, uncertainty about the inflation outlook remains high… Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased.”

    In other words, it will cease with its “easing”, loose monetary policy because as one investment expert recently put it on CNBC’s Kudlow & Company, “Easy money is the root of all evil.”

    If the good news is that the Fed finally did nothing, the bad news is that it still appears to be torn by its dual mandate—stimulating economic growth and ensuring price stability—enacted during the Carter administration. If it had been solely concerned with price stability, it would not have reduced interest rates in the past year. The world would not have suffered this recent commodities bubble. And it would have taken back at least a portion of those cuts yesterday.

    Instead of preventing inflation, the Fed has caused it. But finally, it appears it is ready to undo the damage it has done—and the biggest winner will be the American people’s purchasing power. So, three cheers for doing nothing. Now, let’s see even more of the same.

    ALG Prediction: The commodities bubble will eventually pop. As the Fed works to counter inflation and inflationary expectations, the dollar—which has been in a virtual freefall for years—will finally begin a strong rebound. A strong currency will mean lower prices for Americans at the grocery store and at the gas pump, and it could prevent an inflationary recession—stagflation—before it’s too late.

    Copyright © 2008-2023 Americans for Limited Government