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Strategies & Market Trends : The Epic American Credit and Bond Bubble Laboratory -- Ignore unavailable to you. Want to Upgrade?

To: TobagoJack who wrote (4400)	1/5/2004 11:26:28 AM
From: mishedlo	Respond to of 110194

morganstanley.com Roach Global: The Lessons of 2003 As I do a post-mortem on my own prognosis, two errors jump off the page: First, I failed to anticipate the size of the fiscal stimulus package that was enacted in the spring of 2003. The tax cuts alone were worth 1.5% of GDP in the year after enactment — fully double our initial expectations. Add in close to another 1% of stimulus associated with the war in Iraq and its subsequent postwar rebuilding efforts, and the total fiscal thrust is right up there with anything we have seen in the past. Second, I made a classic forecasting error in underestimating the spending proclivity of the American consumer. That tells me one of two things — either consumers aren’t as over-extended as traditional metrics on saving, debt, and earned income generation suggest, or that they cast all caution aside and indulged in an unsustainable buying binge in 2003. There’s obviously an important corollary to this lesson: Don’t underestimate the politics of reflation. When faced with election-year perils due to a sluggish economy, the political economy of desperation knows no limits. =========================================================== This Snip from Richard Berner - New York Not Roach The Fed’s exit strategy The Fed will likely decide to abandon its ultra-accommodative monetary policy when inflation rises sufficiently to convince officials that the risks of “unwelcome disinflation” are gone. Inflation must reach an acceptable rate before the Fed will seriously consider adjusting policy. And core inflation measured by the PCEPI was just 0.8% in the year ending November, a rate below the lower bound of the Fed’s presumed 1% to 2% range. Thus, current inflation dynamics suggest that actual tightening may come later rather than sooner, and in any case will be gradual. Nonetheless, history shows that inflection points in policy are often market-shaking events. Well before the Fed moves, officials’ effort to articulate the exit strategy from the Fed’s current stance will in my view be the functional equivalent of a modest tightening, as market participants refine their guesses about when it will happen and how far policy must travel. In this uncertain environment, market reactions will therefore depend on how the Fed explains its future game plan. Three issues are important for that story: Where policy is, where it will ultimately go, and how fast it must get there. In our view, monetary policy is extremely accommodative. It is also a long way from a “neutral” setting; in a high-productivity growth economy, the “natural” or real long-term Federal funds rate is probably about 3%. In our view, policy should be back to neutral when the output gap has vanished, as the Taylor Rule suggests. But with ultra-low inflation and only a gradual rise likely, a return to policy neutrality could take two years or more (see “Unwelcome Disinflation and the Fed,” Global Economic Forum, December 19, 2003). Whether the yield curve steepens or flattens over 2004 will hinge on whether circumstances challenge the current rather benign view of policy’s stance. While today’s low inflation environment is unlike that of 1994 in many respects, the widespread use of so-called “leveraged carry trades” that bet on a prolonged steep yield curve hints at heightened potential for an abrupt market reaction to anything that tests such positioning leverage (see “Lessons in Leveraged Carry Trades,” Global Economic Forum, April 28, 2003). ================================================================== Here is some silliness from Joachim Fels & Elga Bartsch (London) Time to Consider FX Intervention With the three possible choices on official interest rates (cut, hike, on hold) all having undesirable consequences, the best way out of the ECB’s dilemma, in our view, would be direct intervention in the foreign exchange markets, if the euro continues to overshoot. The idea would be to signal with well-timed and surprising dollar purchases that the ECB is not only interested in a strong but also in a stable euro, as ECB President Trichet has repeatedly said, and that the bank stands ready to put a cap on euro/dollar. In theory, the ECB has unlimited means to stop the euro from appreciating, as it could print unlimited amounts of euros to purchase dollars and stabilise the exchange rate.