we are going the same way
with the crew you just elected, I agree
Can't be any worse than what the old crew messed up;
Stupid is as stupid does!:
Fed has lost control over interest rates
Squeezed by a possible recession and a troubled currency, the Federal Reserve will have to side with the world's bankers and the billions of dollars they hold.
Latest Market Update
December 05, 2006 -- 16:20 ET
[BRIEFING.COM] While paling in comparison to Monday's impressive rally, more evidence that the U.S. economy is on pace for a soft landing provided a floor of modest buying support from the opening bell to the close of trading.
Last week the world called the tune, and the U.S. dollar danced. The dollar's tumble and Federal Reserve Chairman Ben Bernanke's attempts to placate overseas investors are the clearest signs to date that the foreign investors who finance the huge U.S. trade deficit have gained significant control over the U.S. economy.
A few more weeks like that, and it will be clear to everyone outside of Washington that the Fed has lost control over U.S. interest rates.
Here's what happened:
On Nov. 28, as the dollar edged toward freefall against the euro, hitting a 20-month low against that currency and plunging below key support prices in the currency markets, Bernanke got up on the ol' soapbox to say that inflation was still "uncomfortably high," growth in the economy was solid and the Fed's next decision would be whether to raise interest rates again.
That came as a big surprise to financial markets that were anticipating a cut in interest rates, perhaps as early as the first half of 2007. Just that morning the markets had, in fact, received confirmation of their view when durable-goods orders, an important gauge of the health of the economy, fell by 8.3%. That's the biggest drop since July 2000 and well above the 5% decline Wall Street had expected.
Bernanke's words didn't stop the carnage: Without some proof that the economy was as strong as the Fed said it was, the markets simply tossed off the Fed chairman's comments as a transparent attempt to talk up the dollar. It didn't help that new Treasury Secretary Henry Paulson was out -- predictably -- trying to talk up the dollar at the same time.
The dollar didn't stabilize until the next day, when revised figures on third-quarter gross domestic product showed the economy growing by 2.2%, rather than the 1.6% rate in earlier data. That was stronger growth than the 1.8% that financial markets had expected and provided enough credibility to Bernanke's remarks to push the dollar up 0.3% for the day.
Why the dollar isn't out of the woods
The dollar faces three big problems, none likely to go away quickly:
There's that whopping U.S. trade deficit. Even though lower oil prices led to a drop in the September trade deficit to a mere $64 billion from the August record of $69 billion, it is on track to break $750 billion this year. That deficit has to be balanced by cash flows from overseas investors who provide the extra money that we spend to buy foreign goods and services. This puts more dollars in the hands of overseas investors and central banks who are already worried about what to do with the dollars they hold.
Second, there's the slowing of the U.S. economy in 2007. Yes, the revised third-quarter GDP growth at 2.2% was good news, but the economy is still in slowdown mode; second-quarter growth was 2.6%, after all. There's a good likelihood that U.S. growth will lag growth in Europe and Japan for at least the first half of 2007.
Third, U.S. interest rates aren't headed any higher at a time when the European Central Bank and the Bank of Japan are still raising rates. That will lower the yield gap between U.S. interest rates and those in Europe and Japan, and as a result, the price of U.S. notes and bonds is likely to fall, while those issued in euros and yen climb.
Put it all together -- a global dollar glut, a slowing U.S. economy and rising euro and yen yields -- and pressure on the dollar is likely to continue well into 2007. In my opinion, the dollar will stay under pressure until Japan and Europe signal a rate pause, and until the U.S. economy starts to re-accelerate or those of Japan and Europe start to slow.
The long-term implication for interest rates
This week's stumping for a stronger dollar by the Federal Reserve and the Treasury marks a shift of priority for U.S. monetary authorities. Yes, fighting inflation remains important to the Fed, and, yes, the Fed would prefer not to tank the economy. But Bernanke and company know that the tough choice must be made, managing the dollar is more important at this point than managing inflation or growth.
That's because the huge piles of dollars sitting in the vaults of the central banks of China, Russia, Japan, the OPEC countries and the European Union are large enough that they make overseas bankers nervous. When you hold 700 billion U.S. dollars in reserve (out of a total $1 trillion in foreign-exchange reserves), as the Chinese do, for example, every penny decline in the value of the U.S. dollar makes you nervous, since it represents a drop of $7 billion in the value of your dollar holdings.
EDIT. You don't understand? Of course you don't........let JF explain it to you.
Sure, there are lots of good reasons to hold dollars and dollar-denominated investments. The yields are higher on U.S. Treasurys and the notes of agencies such as Fannie Mae (FNM, news, msgs). The markets are deeper. The euro is still a relatively untested currency and Japan, the home of the yen, is still crawling, maybe, out of a decade-plus of deflation.
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