Risk and Return

Can I ask for some applause for this from Crossing Wall Street?

I have to agree with Frederic Mishkin of the Fed:

I think there is too much focus on what decision will be made about the federal funds rate target at the next FOMC meeting. What is important for pricing most financial assets is the path of monetary policy, not the particular action taken at a single meeting.

One of the great myths of the market is the over-agency of the Federal Reserve. In reality, the Fed is much less powerful than is commonly believed.

I think some people have to believe that there’s some mysterious group that’s in charge and running things. Ron Paul even blames the Fed for higher oil prices.

Nobel Laureate, Edward Prescott, wrote in the Wall Street Journal:

I am not saying that there are no real costs to inflation — there certainly are. And if we get too much inflation we can exact high costs on an economy (witness Argentina as an example). However, I am talking here of the vast majority of industrialized countries who live in a low-inflation regime and who are in no danger of slipping into hyperinflation. It is simply impossible to make a grave mistake when we’re talking about movements of 25 basis points.

I would add that even if they do not make a mistake it is unlikely to change the outcome for investors in any dramatic fashion. The Fed is just not the main determinant of asset prices, nor is the yield level of treasuries.

That doesn’t mean the Fed hasn’t made mistakes which have contributed to our present woes. Milton Friedman’s old partner, Anna Schwartz, brings out the wood (via Greg Mankiw)

As rebukes go in the close-knit world of central banking, few hurt as much as the scathing indictment of US Federal Reserve policy by Professor Anna Schwartz.

The high priestess of US monetarism - a revered figure at the Fed - says the central bank is itself the chief cause of the credit bubble, and now seems stunned as the consequences of its own actions engulf the financial system. “The new group at the Fed is not equal to the problem that faces it,” she says, daring to utter a thought that fellow critics mostly utter sotto voce.

“They need to speak frankly to the market and acknowledge how bad the problems are, and acknowledge their own failures in letting this happen. This is what is needed to restore confidence,” she told The Sunday Telegraph. “There never would have been a sub-prime mortgage crisis if the Fed had been alert. This is something Alan Greenspan must answer for,” she says.

[...]

Her fame comes from a joint opus with Nobel laureate Milton Friedman: A Monetary History of the United States. It revolutionised thinking on the causes of the Great Depression when published in 1965. The book blamed the Fed for causing the slump. The bank failed to use its full bag of tricks to stop the implosion of the money stock, and turned a bust into calamity by raising rates.

“The book was a bombshell,” says British monetarist Tim Congdon. “Until then almost everybody thought the free-market system itself had failed in the 1930s. What Friedman-Schwartz say was that incompetent government bureaucrats at the Fed had caused the Depression.”

I guess restoring confidence that they won’t make things worse is better than nothing, but monetary policy in the range within which they operate will not be the answer, or the cause, for regulatory problems, investor and homeowner myopia and irresponsibility that has already occurred, or overvaluation.

“Steve Jobs is one powerful dude.” (Silicon Alley Insider) (From Abnormal Returns)

Mark Hulbert asks if we really want to assume that the bond market is wrong in betting that inflation will be below 2.5%?

Retail sales in December fell. Barry Ritholz points out:

Credit card debt turned up, the home ATM turned down, inflation was rampant, real income gains non-existent, the job market mediocre. On top of that, we had much higher prices for daily requirements like Food and Energy — and still, there was total denial about how healthy retail is.

How about a chart to back that up?

Obviously we don’t need to just worry about financials being rocked just by mortgages in the consumer space. Actually, I think corporate debt is going to be an issue as well, and of course the derivatives market, especially credit default swaps, are bound to become a major issue. Throw in all the insurers of this debt…I think we better move on.

Despite much wailing, the LBO loan market may not add much to Wall Street’s problems in the great scheme of things. See, I moved on. Million dollar losses seem so small now.

Meanwhile, in addition to the tens of billions evaporating from their earnings, banks such as Merrill and Citibank are busy diluting investor capital by selling huge chunks of ownership to overseas investors. Also read this followup. Probably the best their shareholders can ask for is to lose money and have future earnings sold to others. Better than bankruptcy I guess.

John Paulson bet against the housing market and cleaned up. Join the club John, though unfortunately our clients didn’t make quite the killing you did, but we are happy enough.

Thanks for visiting Risk and Return. Please feel free to contact us with any questions and/or comments. Please note our disclaimer.

Technorati Tags Alan Greenspan, Anna Schwartz, Barry Ritholtz, Ben Bernanke, Citibank, credit, debt, Economics, Edward Prescott, Federal Feserve, FOMC, Frederic Mishkin, Housing Market, Inflation, John Paulson, LBO, Merrill Lynch, Milton Friedman, monetary policy, mortgages, recession, Steve Jobs, subprime, Wall Street

Tags: Alan Greenspan, Anna Schwartz, Barry Ritholtz, Ben Bernanke, Citibank, credit, debt, Economics, Edward Prescott, Federal Feserve, FOMC, Frederic Mishkin, Housing Market, Inflation, John Paulson, LBO, Merrill Lynch, Milton Friedman, monetary policy, mortgages, recession, Steve Jobs, subprime, Wall Street

Trackback URI |