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Strategies & Market Trends : The Residential Real Estate Crash Index -- Ignore unavailable to you. Want to Upgrade?

To: CalculatedRisk who wrote (85060)	8/13/2007 8:43:28 PM
From: Broken_Clock	Read Replies (1) \| Respond to of 306849

Here's a comforting article. +++ FT.com Fed's efforts to calm markets not over Monday August 13, 8:25 pm ET By Krishna Guha in Washington The calmer tone in global markets on Monday will encourage Federal Reserve policymakers to believe they are striking the right balance in response to credit market upheavals: stepping up liquidity support aggressively when needed, but holding fire on interest rates. But with further credit bombshells likely, there is every possibility that the coming days will see renewed turmoil and fresh pressure on the US central bank to consider rate cuts. The futures market was on Monday still pricing in some chance of an emergency rate cut before the Fed's September meeting, roughly a quarter-point cut by that meeting and roughly two more cuts by August next year. "The markets are certainly pricing in aggressive easing, but the Fed is not outsourcing policy to the markets," says Larry Meyer, a former Fed governor and chairman of Macroeconomic Advisers. Analytically, there is a clear distinction between the Fed providing injections of cash to stop the overnight federal funds rate being pushed above the desired policy rate of 5.25 per cent and cutting that policy rate. Cutting interest rates would certainly boost markets but the Fed is not aiming to do so, or even to stabilise markets at current prices. What the Fed is trying to do is to ensure markets do not seize up while they undertake the painful process of repricing risk and discovering where subprime mortgage losses lie. The Fed wants to help this process along by ensuring it is never compounded by fears about creditworthy institutions' ability to access short-term funds. Late last week it saw clear signs of a liquidity crunch: apparently sound banks unable to obtain short-term finance at normal rates from their regular investors and counterparties. Its response was to become the lender of last resort, ramping up liquidity support by providing overnight money against high-quality collateral. This approach seems to have had some effect on the overnight Fed funds market. But liquidity has not washed through to longer duration markets, such as the three month Libor market, which remains very tight. The Fed also saw what it regards as a sharp increase in risk awareness in the markets. Officials tend to the view that a repricing of risk is, broadly speaking, healthy. But they know there is a lot of uncertainty as to where losses lie, and that this is creating extreme anxiety in the market. The Fed cannot directly address the underlying causes of this uncertainty - for instance, by revealing where credit losses lie or validating valuation models used to price complex structured credit problems. Policymakers tend to think these "information problems" will be resolved by market participants. When they are, money will begin to flow again as normal, even if the price of risk settles at a higher level than before. Rates policy will be guided by the economic outlook and objective of achieving full employment and price stability. The US central bank will only change rates in response to market developments in so far as they alter its economic forecasts or the risks to those forecasts. Any tightening of credit conditions has a contractionary effect on the economy. The Fed is trying to assess whether the market changes alter its forecasts in a big enough way to imply changes in rate policy in advance of any actual sign of a softer economy. Most policymakers have not yet seen enough to reach this conclusion. But they are watching the market adjustment proceed. What matters is how deep the pull-back in the credit markets is, and how protracted it proves to be. The Fed's hunch is that the hiatus might prove short-lived. For instance, it does not matter much for the macroeconomy if the market for "jumbo" mortgage-backed securities (loans too large to be purchased by government-sponsored Fannie Mae (NYSE:FNM) or Freddie Mac) closes for a few days, or even a few weeks, and then reopens. But if the market for these securities remained closed for a longer period, the risk to demand in the economy- in this case, demand for housing - would mount. At a more general level, Fed policymakers believe strongly that the efficient functioning of financial markets is important to the economy. So while the Fed is by no means yet resolved to cut rates in September, it is perfectly possible events could unfold in ways that deliver that outcome.