If Stock Market Slump Continues
The Fed Will Start Juggling Asset Classes
by Brady Willett
As with all good things, it wasn�t meant to last. Rather, in the last 50-minutes of trading in New York stocks swooned (apparently the current tech �bottom� is growing as elusive to call as the 2000 tech bottom that never arrived. Don�t look now -- Cramer is doing the same thing today as he was 6-years ago). This action not only makes for another interesting night on the Nikkei, but an interesting quandary for the Fed. Look at it this way: with US housing prices not escalating any longer and US stock prices in a slump, what asset class is padding the pockets of consumers to keep the US expansion going?
Bernanke�s Fed, well aware that foreign central banks are questioning US dollar hegemony at a time when precious metals are capturing some safe haven flows, needs to ensure that three things happen:
1) The US dollar declines in an orderly manner.
2) US and global asset prices decline in an orderly manner (or preferably flatline) as speculative excesses in commodities, real estate, and emerging markets are expunged.
3) US companies start spending more of their cash hoard under the misplaced notion that the economy will continue down the goldilocks path.
I am not so sure that the Fed can accomplish all of these things if the US consumer seriously curtails their spending habits. In fact, I am not so sure they can accomplish any of these things if the US consumer curtails their spending habits. And here is the rub: If no major asset price is going up the US consumer will curtail their spending habits.
In short, a continued stock market sell off could quickly change the
Fed�s focus from inflation fighter to asset deflation fighter.
Admittedly, the situation is blurry, and it is worth remembering that a
rhetorical policy change to try and save the stock market (i.e. a little
inflation is wonderful news!) may not be well received by the bond
market. Too bad the other asset class on the Fed�s radar,
housing, is already scared to death of rising interest rates. The
housing market or stock market Mr. Bernanke. You may only be able
to and save one...
© 2006 Brady Willett