Ben Bernanke and the Fed Funds Rate.

Discussion in 'Economics' started by SouthAmerica, Aug 20, 2007.

  1. .

    August 20, 2007

    SouthAmerica: Regarding Ben Bernanke’s bail out of Wall Street.

    Fed Chairman Ben Bernanke inherited a major mess from the Alan Greenspan years.

    Now he is giving a break to the people who made bad investment choices and is helping to bail them out from further losses.

    I live in New Jersey only a half hour from New York City and I can tell you that inflation in our area it is a lot higher than the official 2.7 inflation rate reported for the entire country.

    In our area prices are going up, up, up and away.

    I noticed the prices going up quite a lot on local diners, and restaurants. Everything is going up in price including the cable bill, apartment rentals, and all kinds of food prices at the supermarket.

    Donkin Donuts, Starbucks, and Borders increased the prices of their coffee in the last 2 weeks. When you meet people at Borders and at your friends parties and the subject of the conversation is about the increase of prices of food items in the area then I realized that other people also had noticed that prices were increasing above the usual rate of price increases.

    This avalanche of price increases used to be called inflation.

    When you have inflation such as the current inflation in our area the Federal Reserve is not supposed to lower the Fed Funds rate.

    Fed Chairman Ben Bernanke probably will make a major mistake when he lowers the Fed Funds rate in the coming months.

    I wonder what former Fed Chairman Paul Volcker thinks about the path that the Federal Reserve should take right now?

    I would not be surprised if former Fed Chairman Paul Volcker would tougher up and keep the Fed Funds at the current level even at the price of pushing the economy into a recession.

    That’s what I would do if I were the Fed Chairman right now.

  2. Daal


    let me guess, the solution is mass immigration of US citizens to brazil?
  3. .

    August 20, 2007


    On the other hand, when Ben Bernanke starts lowering the Fed Funds rate by ¼ point or even further – he is going to help make my prediction of the US dollar trading versus the euro in the range of $ 1.4 to $ 1.5 - to finally become a reality.

  4. .

    Daal: let me guess, the solution is mass immigration of US citizens to brazil?


    August 20, 2007

    SouthAmerica: No.

    The official inflation rate is even higher in Brazil, but the one difference is that the equivalent of the Fed Funds rate in Brazil it is also very high.

    By the way: The Fed Funds rate in Brazil is probably higher than it should be considering the level of inflation in the Brazilian economy.

  5. .

    August 23, 2007

    SouthAmerica: If Fed Chairman Ben Bernanke decides to cut the Fed Funds rate in the near future to please the Wall Street speculators.

    What is going to happen to the real economy as a result of such a change or multiple changes on the Fed Funds rate?

    1) The value of the US dollar will decline versus the euro.

    2) Since oil is priced on the international markets in US dollars – we can assume that the barrel of oil has to go up in term of US dollars.

    3) Higher oil price in US dollars would translate into inflation here in the US economy.

    4) A lower US dollar versus other currencies including the euro would have other financial implications that would have to be considered.

    Conclusion: Ben Bernanke should keep the Fed Funds rate at the current level to avoid even bigger problems in the US economy in the following months and years.

  6. .

    August 29, 2007

    SouthAmerica: One of my favorite economists – Mr. Martin Wolf – had a column published today on The Financial Times (UK) - “Central banks should not rescue fools from their folly.”

    I hope Fed Chairman Ben Bernanke took the time to read Martin Wolf’s column, before he makes his decision about cutting the Fed Funds rate.


    “Central banks should not rescue fools from their folly”
    By Martin Wolf
    Published: August 29 2007
    The Financial Times - UK

    Quoting part of that article:

    ““…The most recent game is a particularly creative one. This time the geniuses seem to have created a "lemons crisis", after the celebrated paper by the Nobel laureate George Akerlof*. Consider the market in used cars. Suppose buyers cannot tell the difference between good cars and bad ones (lemons). They will then offer only an average price for cars. Sellers will withdraw any good cars from the market. This may continue until the market disappears entirely.

    …This then is a crisis in the market for financial lemons. So what should the authorities do about that? My answer is "nothing". They should, of course, stand ready to provide liquidity to the market, at a penal rate (since insurance should never be free), and also to adjust interest rates to overall macroeconomic conditions. But they should not promote the survival of a market in lemons.

    …This is why I disagree with the suggestion by Willem Buiter and Anne Sibert, in the FT's economists' forum, that central banks should now become market-makers of last resort. Central banks could do this only if someone regulated not just the soundness of financial institutions (as now) but also the properties of all the products these institutions invent. Otherwise, the central banks might be forced to buy what they do not understand. They would, instead, be offering a commitment to be buyers of last resort in a market for lemons, thereby subsidising the creation of a market in junk. If central banks were to regulate products, however, they would be running the financial institutions. Ours would become a quasi-nationalised financial system.

    Now suppose central banks did, instead, refuse to intervene in the afflicted markets. What would happen? Sellers must turn lemons into apples, pears, strawberries and all the rest. In other words, they must demonstrate the precise properties of what they are trying to offload. Where they cannot do this, they may have to hold securities to maturity. Meanwhile, vulture funds would invest in obtaining requisite knowledge. Losses will also have to be written off. How much of the market in securitised lending would survive this shake-out, I have no idea. But I do not care either. That is for the players to decide, after they realise the consequences of getting it wrong.

    Burned children fear the fire. If some of the biggest and most powerful institutions in the world have been playing with fire, they need to feel the burns. It is not the central banks' job to rescue them by creating a market in the incomprehensible. It is their job to preserve the banking system and the health of the economy. Neither seems now to be in grave danger.

    Decisions made in panic are almost always bad ones. Stick to principles and let the masters of the financial system sort themselves out. They are paid enough to do so, after all.”

  7. .

    September 15, 2007

    SouthAmerica: You don’t need to be a rocket scientist to figure that one out.

    Massive defense spending related to war – in this case the Iraq War – eventually will result in high inflation in the same way that massive defense spending during the Vietnam War resulted in the high inflation of the 1970’s and early 1980’s.

    What we will need at the Fed is someone with balls like Paul Volcker – that is why he is considered to be a legend and a master inflation fighter.

    Fed Chairman Ben Bernanke can start immediately on Paul Volckers’ footsteps by letting the fed funds rate stay at 5 ¼ percent at least to the end of the year and hope for the best.


    “Greenspan: Interest rates need to go to double-digits”
    By Barbara Hagenbaugh, USA TODAY
    USA Today – September 15, 2007

    WASHINGTON - Former Fed Chairman Alan Greenspan predicts in a new book out Monday that the Fed will have to raise interest rates to double-digit levels in coming years to thwart inflation.

    Greenspan, 81, says in The Age of Turbulence that the inflation-damping effect of globalization, which has led to lower wage pressures, inflation and interest rates worldwide, will recede.

    At some point, the flow of people into the workforce in developing countries such as China, which has seen a movement of workers from farms into factories, will slow, leading to stronger wage pressures and prices, he says. The impact will be global.

    And the shift "may be upon us sooner rather than later," he says. Evidence: Prices of Chinese imports coming into the USA started rising earlier this year. That suggests that in the "next few years," inflation will build unless action is taken.

    The Wall Street Journal first reported details of the book on its website Friday night, saying it had bought a copy of the book in a New York City-area bookstore. USA TODAY had received a copy of the book to review in advance and was given permission to run its story ahead of the official publication Monday.

    Greenspan's prediction comes shortly before Fed officials are widely expected to cut interest rates for the first time in more than four years following turmoil in mortgage markets that has rippled through the entire financial sector, leading to concerns about a credit crunch and a slowdown in the overall economy.

    Fed Chairman Ben Bernanke and his colleagues, who meet in Washington Tuesday, have kept their target for short-term interest rates, which influence borrowing costs economywide, at 5.25% for more than a year. Greenspan's assertion that the Fed may have to double rates from current levels suggests the Fed may put itself in a bind by cutting rates now.

    Criticism of Bush over spending

    In his 531-page book, the former Fed chairman sharply criticizes President Bush for not vetoing bloated spending bills and for continuing to focus on issues, such as adding prescription drug benefits to Medicare even though the budget surplus of just a few years ago had disappeared and deficits were mounting.

    "In the revised world of growing deficits, the goals were no longer entirely appropriate," Greenspan says. "He continued to pursue his presidential campaign promises nonetheless."

    Greenspan, a libertarian Republican, as he calls himself, was also disappointed that his former colleagues from the Ford administration who were working for Bush, including Vice President Dick Cheney, didn't show greater fiscal discipline.

    "People's ideas — and sometimes their ideals — change over the years," Greenspan writes. "I was a different person than I had been when first exposed to the glitter of the White House a quarter of a century before. So were my old friends: not in personality or character, but in opinions about how the world works and, therefore, what is important."

    The Bush administration has often attributed the deficits to the impact of the 2001 recession, September 11, the war on terror and corporate scandals. "We are not going to apologize for spending that was required for national security and fighting the war on terror," White House spokesman Tony Fratto says.

    "We respect the work that Chairman Greenspan did," Fratto says. "We always respect his opinion. We share his views on limiting fiscal deficits. Once we were able to help the economy recover, it's clear that growth and limited spending are resulting in diminished deficits that will lead us to surpluses."

    Greenspan also doesn't spare Republicans in Congress, who he says were "feeding at the trough," passing expensive pet projects for their home districts. For this, he says, they "deserved to lose" control of Congress to the Democrats in 2006.

    "The Republicans in Congress lost their way," he says. "They swapped principle for power. They ended up with neither."

    Greenspan covers a number of his pet topics, many of them familiar to those who have been following the former chairman's speeches and testimony. He argues U.S. primary and secondary education is slipping and must be reformed quickly to reduce income disparities between the skilled and unskilled, says trade protectionism can only hurt the economy and advocates looser immigration policies to provide more skilled workers.

    He also frets about probably his biggest concern: The retirement of the baby boomers and the impending fiscal problems caused by the draws on Social Security and Medicare. He considers it an urgent problem that needs to be addressed soon.

    A personal look at his life

    Greenspan starts the book out on September 11, 2001, winding back to his childhood and eventually going into detail about his time at the Fed.

    He includes details of his relationship with wife, Andrea Mitchell. After their first date he invited her back to his apartment to read an economics paper he had written. And they've been together ever since.

    "I'm not threatened by a powerful woman; in fact, I'm now married to one," Greenspan says, when discussing TV newswoman Barbara Walters, whom he dated after meeting in 1975. "The most boring activity I could imagine was going out with a vacuous date — something I learned the hard way over my years as a bachelor."

    Greenspan gives readers a look into a man everyone knows but few know a lot about. One million copies of the book have been made in the initial printing.

    Although he delves into a variety of economic topics, it is the personal part that is likely to be the most interesting, even for those who have followed the former Fed chief for decades.

    He discusses how his parents' divorce "left a big hole" in his life, even though he remained in touch with his dad, Herbert, who was a broker on Wall Street. Later, of his divorce to his first wife, Joan Mitchell, Greenspan says, "I was the main problem," arguing he married a good woman for the wrong reasons.

    Greenspan describes how his mathematical abilities shone through at a young age. His mom, Rose Goldsmith, used to show off to relatives how he could do addition and multiplication in his head, a likely uncomfortable feat for someone who as a boy was "more inclined to sit in the corner." As an avid baseball fan, he developed his own technique of keeping baseball box scores during the 1936 World Series. "To this day, I can recite the lineup of Yankees starting players, complete with their positions and batting averages, for that World Series," he says.

    Such skills helped him succeed in later years, starting in his first job as an economist making $45 a week analyzing obscure, industrial data, later building up a successful consulting firm and then joining the government.

    After leading the Fed for more than 18 years, Greenspan today runs his own consulting firm, Greenspan and Associates. He continues to make speeches for six-figure fees, mainly at private gatherings. But occasionally he has roiled stock markets when his comments have hit the press, drawing criticism from those who say the guy just doesn't know how to retire.

    That criticism will likely grow louder, with Greenspan releasing a book the day before the Fed meets to discuss interest rates.

    Greenspan started writing The Age of Turbulence a day after he retired in January 2006. He wrote the book as he did his speeches at the Fed — in longhand and mainly while sitting in the bathtub, which he does every day since starting the practice after a back injury in the 1960s. He says the invention of a pen that can write in water has made it easier for his assistants to make out the sometimes soggy papers.


  8. .

    September 15, 2007

    SouthAmerica: In the mid 1970’s when I was in college I did read a very interesting book which gave in detail the roots of the economic mess that the US found itself in the 1970’s – the name of the book was “Inflation” by Michael Harrington. He also wrote a number of other books, but the book that made him famous was “The Other American.”

    I was an undergraduate economics student at that time and Michael Harrington’s book made a lot of sense to me. The root of the problem of the inflation of the 1970’s was in the massive US defense spending going back to the 1960’s because of the Vietnam war.

    And once more history repeats itself - and massive defense spending related to the Iraq War will generate inflation in the US in future years.

    Just a reminder:

    Paul Volcker, best-known as the Chairman of the Federal Reserve ("Fed") under United States Presidents Jimmy Carter and Ronald Reagan (from August 1979 to August 1987).

    Volcker's Fed is widely credited with ending the United States' stagflation crisis of the 1970s by limiting the growth of the money supply, abandoning the previous policy of targeting interest rates. Inflation, which peaked at 13.5% in 1981, was successfully lowered to 3.2% by 1983 and has remained low ever since. Paul Volcker’s stabilization of the price level has apparently been a major success story in American economic history.

    After serving as president of the Federal Reserve Bank (1975–79), he was appointed head of the Federal Reserve System in 1979 by Pres. Jimmy Carter and served from August 1979 to August 1987. To end a period of very high inflation, he slowed the growth of the money supply and allowed interest rates to rise, causing a recession (1982–83) but dramatically reducing inflation.

    Jimmy Carter’s presidency from Jan 77 to Jan 81.
    Ronald Reagan's presidency from Jan 81 to Jan 89.

  9. It is naturally a compelling argument.

    It's almost certainly the case that the 'cheap human resources' reserve on the planet will expend itself leaving us without the primary factor responsible for suppressing the latent inflation you're getting at. But it seems reasonable that it will take several large waves, like the east Asian/Latin American one going on now, before we should assume that the world's 'migration' into the global economy is no longer an inefficiency resource.

    India, for example, has been growing fast, but in a very different way. The vast majority of the Indian population (about 98%) have not been 'harvested' by, or integrated into, this process. And then there's central and eastern Africa... Of course, these are different systems with structural, political, cultural dynamics stunting that process. But...

    The point is, the pool of cheap labor won't be remotely dry once the average Chinese citizen is a middle-class consumer. There will still be at least a billion and growing that are next in line in what can only be assumed to be an inexorable integrating process.

    But the larger dynamic must be the case: eventually that tempering force won't be there. And it should diminish faster and faster as the 'harvesting' force will be larger and more efficient at each step.
  10. Even if the economy didn't go into a depression, and revenues didn't drop dramatically, the government still couldn't even pay the interst on the debt, let alone pay any of it back, if rates get raised.

    The federal debt alone is now about $9 trillion, so every 1% added to the interest rate adds $90 billion to the deficit each year.

    If rates are raised, a recession is a shoe in and a depression likely, IMO.

    They better cut the 1/4% and try to avoid the recession, IMO. Better for the dollar to dip a bit on rates than for it to collapse with the economy.
    #10     Sep 15, 2007