Dennis: WSJ Editorial: How high Can Rates Go?
I went long 5 days ago. I started picking around the rubble
and building a portfolio,
TA
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May 16, 2000
Editorial
How High Can Rates Go?
By Todd G. Buchholz,
chairman of Victoria Capital, LLC,
and author of
"Market Shock: 9 Economic and Social Upheavals That Will
Shake Your Financial Future -- and What to Do About Them"
(HarperCollins, 1999).
Federal Reserve Board Chairman Alan Greenspan seems to
think the stock market is too high, people are feeling too
wealthy, and wages are starting to creep up. So he'll
likely hike interest rates at the Federal Reserve meeting
today.
But there's another way he could achieve his goals.
Quit his job. If the chairman turned in his keys to the Fed
men's room, the Dow Jones Industrial Average would dive
20% and interest rates on 10-year Treasury bonds would shoot
up past 7.5%. We'd sure get a slowdown fast. But
there are probably limits to the chairman's patriotism, despite his
serving five presidents at the White House or
the Fed over the past 30 years.
Paradoxical Moment
There's a serious point here. The chairman's credibility,
stature and longevity are his enemies at this paradoxical
moment. Americans have so much faith in Mr. Greenspan and
the Federal Reserve Board that they are ignoring higher
mortgage and auto loan rates. Families figure they will
simply refinance at lower rates once Mr. Greenspan gets
things back on track. Even foreigners trust him, driving up
the dollar this year by about 9% against the euro, 7%
against the British pound, and 6% against the yen.
That leaves Mr. Greenspan with a couple of choices.
He could keep jacking up short-term rates again and again
and again, until the Federal Funds rate hits, say, 7.5%.
(It was 6% this morning.) Sooner or later, businesses and
families would feel the pinch.
Trouble is, this is a recipe for a typical 20th-century
recession. No doubt, Mr. Greenspan remembers the 1990
recession, which followed a rampage of rate hikes in 1988 and 1989
that propelled the Fed Funds rate to 9.75%.
I served in the White House during that period and watched
angry missives from Treasury Secretary Nicholas Brady blaze
across my desk on their way to Mr. Greenspan's Fed office on C Street.
I'm sure he doesn't want to end his career
with a bitter deja vu.
Alternatively, he could just borrow a few pages from
Muhammad Ali's playbook. For instance, the "rope-a-dope"
strategy, in which Mr. Ali patiently let George Foreman
pound himself into exhaustion in the hot Congo sun. The
point here is that Mr. Greenspan should display similar
poise. He should not panic and start flailing away at the
U.S. consumer by punching up short-term rates a full
percentage point in the next few months. The U.S. consumer
is going to punch himself out without the Fed moving
aggressively.
But neither should the Fed do nothing. Just like Mr.
Ali floated like a butterfly and stung like a bee, the Fed
might consider talking like a hawk but biting like a dove.
After slugging the bond market today with a rate hike, the
Fed should show patience. Give some tough-sounding,
vigilant speeches this summer, and support a strong U.S.
dollar, which helps battle inflation. The important thing
is not to go crazy, throwing wild, windmill punches.
Remember, Ronald Reagan didn't actually have to drop bombs
to get the Soviets to give up ground. But his words
thundered like B-52 bombers. Likewise, Mr. Greenspan
doesn't have to spark a recession in order to keep
inflation tame. Of course, the chairman doesn't have
Mr.Reagan's gift for communication. Listening to
Mr. Greenspan is like trying to make out the garbled
announcements of the conductor on the "A" train as it
rumbles under Eighth Avenue in New York. Nonetheless,
Mr. Greenspan's microphone could be more valuable than his
Fed Funds button.
All of this raises a non-trivial question: Should we be
losing sleep over creeping inflation? The answer is: not
much. Despite bond traders panicking about wages, labor costs
have inched up by just 0.7% since the first quarter
of 1999. I believe that Mr. Greenspan can adopt the Ali
shuffle precisely because the economy will be slowing and
inflation will be peaking by the Fall.
Consumers ran amok in the first three months of the year
for a few good, simple reasons. The Fed flooded the market
with liquidity in fear of the Y2K phantom. The M1 measure
of the money supply jumped 15% in December. Furthermore,
those new IRS computers worked at a furious pace, mailing
back $96 billion in tax refunds from January through March.
Employees also took home fat bonuses in January, which they
promptly spent. And consumers took advantage of post-
Christmas discounts and did much of their holiday shopping
closer to Groundhog Day than to Christmas. With shoppers
leaving skid marks in the parking lots, is it any wonder
that the Fed's data zoomed off the charts?
Each of these stimuli is fading as we head into the summer.
In fact, on April 15 many were forced to stuff envelopes
with checks addressed to the IRS. The Fed has pushed down
the money supply this year. Add a very jittery equity
market, and you have the makings of a tamer economy. April
retail sales slipped 0.2%. Suddenly, with the Dow and
Nasdaq dropping about 6% and 14%, respectively, this year,
the wealth effect doesn't seem so strong.
Up until two months ago, would-be homebuyers engaged in
bidding wars by drawing on their capital gains in the stock
market. That weapon has lost a few megatons of power
recently. Despite the lingering boom in housing, I suspect
we will be seeing the real-estate, furniture and appliance
sectors turn downward. Corporations, too, are feeling the
drag. Those with double-A credit ratings are now paying 1
to 1.55 percentage points more for credit than the U.S.
government.
And then there's the structural and technological
revolutions that have ignited a vicious, unforgiving and
anti-inflationary competition among vendors. Companies
boosted their equipment investment by 24% in the first
quarter, making up for a weak, Y2K-infected fourth quarter.
That's good news, not bad. Almost every week another
industry unveils an Internet auction site that will squeeze
prices for everything from greasy crankshafts to fragrant
tulips. I went online and bought my grandmother a $99
Internet appliance for Mother's Day. She'll never pay
retail again. She might even buy my new book at a discount
and cheat me out of a full royalty.
More Legroom
Even airlines, plagued by higher fuel prices, are charging
less than they did last year, according to the Journal's
leisure and business fare index. Not only that, but
American Airlines is giving you more leg-room.
Are there pockets of pricing power? Of course, but they are
pockets that don't matter much to most of us, such as
Ferraris and lodges in Aspen. Many luxury prices haven't
budged, as Mr. Greenspan should know. Three years ago, he
married NBC television correspondent Andrea Mitchell at the
Inn at Little Washington, one of the country's best and
priciest lodges. The regal attendee list featured Barbara Walters,
Henry Kissinger and Katharine Graham. The fixed
price dinner menu at the Inn hasn't moved a dime over $128
since their wedding. |
