The Fed's Pitching 'Cheese'

So much for all the ink spilt on the Fed’s “taper” strategy. After yesterday’s head fake… to “taper” or not to “taper” is a moot point. The Fed… in effect…is pitching “cheese”. If you would, please allow me to explain…

The only interesting, if wonky, talking point from Mr. Bernanke’s speech yesterday was his emphasis on the Fed’s “forward guidance policy”.

“Tell investors what you’re going to do,” he seemed to say. “Then do it.”

Yeah, right.

The speech reminded us of an encounter we had with Jim Grant, of Grant’s Interest Rate Observer, at a Tea Talk sponsored by Ron Paul, our former employer. At the Tea Talks, Congressional staffers were invited to attend and hear lectures from leading thinkers on money and banking. Dr. Paul’s bill H.R. 459 — a proposal to audit the Fed — was being debated at the time.

Grant’s topic: “What Does the Fed Do?” Chuckle, if you like. Grant’s a witty man.

During the question and answer session following, I asked if Mr. Grant thought the Fed should use “forward guidance policy”. After all, by the Fed’s own logic, if they welcomed clarity, they should welcome an audit. Yet, Bernanke was opposed to it.

“No,” Grant answered surprisingly, “that’s just more light on the same bad process.” The following is the rest of his answer, extracted here from a public record:

“There was an interesting book written by a guy named Charles Goodhart, who was a very senior guy at the Bank of England. Before that he was a scholar and he wrote book, during his professorial days, on the history of the New York Money Market from 1900-1913. The fourteen years before the Fed was founded….

“The fed funds rate of that day — they called it the call money rate — dove and it sunk and it flew. It was all over the place. The very volatility of this rate made the financiers honest. They couldn’t borrow too much because they couldn’t predict the cost of their debt.

“If the chairman were here, (Chairman Bernanke’s a famous baseball fan), I’d say, ‘Chairman, if you were pitching, and you told the batter that you were going to throw cheese (it’s a baseball term for a high fastball), nothing but fastballs for the ohh…next two years, and by the way, right down the middle just dig in; how would that be as opposed to moving around the plate?’

“See, what the Fed has done to the baseball game of finance it has told everybody, okay, everybody, dig in, zero percent for as far as the eye can see. Have a blast. And this naturally — paradoxically, I guess — creates the very waves of speculative lending and borrowing that seem to have gotten us in this soup before.”

After yesterday’s press conference, it’s clear, Bernanke’s still on the mound and “pitching cheese”. Zero interest rate policy as far as the eye can see… what else are countries like Brazil, Japan and China going to do except dig in and devalue their currencies?

How will you weather the next wave of “speculative lending and borrowing that got us into this soup before”?


Peter Coyne
for The Daily Reckoning

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