Dee watched Ben Bernanke at the first-ever press conference held by the Federal Reserve today. Here are his thoughts.
Today was Fed day. Not just the usual report to the world after a two day meeting Fed day, but an historic, hold-a-press-conference-for-the-first-time-ever Fed day. Chairman Bernanke’s response to questions was, in my view, more enlightening than his prepared remarks.
A speculation often heard from the lips many pundits has been that the Fed will inject more funds into the economy by means of “Quantitative Easing, Part III.” Dr. Bernanke addressed that issue clearly. Under no reasonably foreseeable circumstances will the Fed embark on another round of stimulus. So much for the Wise Guys.
Inflation is a concern, both within the Fed and among the people at large. While the Fed does not expect oil prices to decline, its expectation of moderated inflation rests on the belief (or hope) that they will cease to rise. I’m glad the Fed’s view is not that the price of oil will fall significantly because that seems unrealistic for quite some time. As Indian and Chinese economies continue to expand, so will their demand for oil. The high level of fractiousness between citizens and governments in oil producing states is very likely to produce uncertainty among traders. Combine fear with the realities of hedge fund ownership of futures and swaps for nearly 50% more crude than the refiners own, and you have a great recipe for both volatility and sharply higher prices.
Chairman Bernanke expressed the view that reducing stimulus will be sufficient to keep expectations of inflation in check. He also expressed the view that inflation will remain benign because energy prices will plateau and food costs will decline over the next few-to-several months. This sanguine view of the future is most probably very optimistic. As I remarked above, energy prices are not likely to plateau and certainly won’t be free from “extrinsic shocks.” Just now, the entire world is betting that the Chinese wheat crop is not as bad as it likely is; that the Russian wheat crop will mostly recover from last year’s drought; and that the American wheat crop has not been debilitated by some rather poor spring weather. The simultaneous bet is that American farmers will produce near record crops in the cornfields and very good soybean crops.
If, instead, China has a 30% crop (three months ago, the Chinese faced prospects of a 10% crop) , Russia has a 60% crop and the US has “only” an 85% crop, we could see food shortages that bring wide-spread starvation and unbelievably high prices ($6 for a loaf of bread would not be impossible) for the next two to three years. Dr. Bernanke’s expressed view is that prices will drop sharply in the fall of 2011.
Dr. Bernanke also expressed the opinion that it is very desirable that the U.S. Government should reduce the deficit very considerably in the intermediate to long term. Though veiled, his express view was that the only two political parties in D.C. are screwing around, not making meaningful efforts to reduce the deficit. Implicit is that the Republican Party is a pack of power-hungry, short-term thinking donkeys who talk about deficit reduction but are unwilling to do what is necessary in the form of taxation and in the form of forcing corporations to bring middle class jobs back to America where they can be taxed for the benefit of America. On the other hand are the Democrats, another pack of donkeys, who lack sufficient manliness to propose a realistic program to get the job done.
There seems to be a disconnect at the Fed. Bernanke is clear the job market is weak (but “improving”) and he is clear that more revenues need to be collected as part of reducing both the Federal debt and the deficit. But he did not make the case that the least painful way to make both ends meet is to force big businesses to bring middle class jobs back to America. How does that help? Americans pay taxes to the US government, but jobs sent to India put revenues in the hands of the Indian government, and jobs sent to China generate tax revenues for the Chinese government.
Apart from that, and the fact that all the traders sat on their hands much of the day, worrying about what would be said by the Fed, it was a pretty routine day. The stock market decided it liked what it heard, both at the end of the Fed meeting and in Chairman Bernanke’s press conference. Bonds didn’t seem to care much one way or the other. Neither did the dollar, even though Bernanke expressly supported a stronger dollar.
What should you expect next? Expect bonds to be sideways to down for at least a few weeks. Someplace out there, rates must go up, sending bonds into a downward run. Expect the stock market to rally to at least 13,300 on the Dow, and possibly to 14,400 (we are currently at 12,690). One might reasonably expect a rest then, and certainly I’ll be re-evaluating the situation.
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