Bernanke’s First Rate Cut
Two weeks ago, we experienced the first rate cut under Bernanke’s reign as Fed Reserve chairman, which was a surprisingly 50 base point cut. The cut stirred much excitement; global stock markets jumped sharply. As a result, the dollar was weakened, and everything else, such as crude oil, gold, raw materials, became more expensive. Since in the short term, the Fed shifted its emphasis from fighting inflation to preventing panic, we have seen inflation-resistant stocks, such as Johnson & Johnson, rising in price.
In his last speech prior to the rate cut, Bernanke said the world has a savings glut which should help keep interests rate low. It is a strong signal for a rate cut. The thing that I don’t understand is why the two things — a global savings glut and rate cut — are bundled together. I DID hear people on CNBC, talking about foreign investors to buy out American companies after a weaker dollar, which, in turn, reminds me what had happened in late 1980s, when Japan invaded US economically.
But, is US economy really that bad? At this moment, we don’t see it YET. Even the dollar is about where it was in 1996, when measured against the countries that the US trades with. However, since the Fed becomes lax with credit and money, it may feed inflation — resulting in the proverbial “too much money chasing too few goods.” Bankers and mortgage firms should have enjoyed the excessive money supply. However, mysteriously, the mortgage rate hasn’t dropped, following the big rate cut. 6-month to 12-month CD rates are still relatively high, around 5% APY, from major banks, such as Bank of America and Washington Mutual. Combined with the fact that OPEC has to raising the oil supply to avoid a potential global recession, the future of economy DOES look looming.
On the other hand, Bernanke’s rate cut might suggest that in the long run, we will face very high inflation that is out of our control. In that case, why not save financial system as much as we can, instead of fighting an inflation war that we cannot win while destroying the financial system. In his book, The former chairman of the US Federal Reserve, Alan Greenspan, says that much of the success in the anti-inflation fight was due to the deflationary effect of China cutting the world price of manufactured goods and wages. Now, as the two most populated countries in the world, China and India, become rich and industrialized, inflation might be unavoidable.
In the near term, since there are a large number of mortgage loans that will reset in October, we should expect either a market crash like the one in Auguest, or another run of rate cuts from Fed to bail investors out. Bernanke’s first rate cut is just the beginning.
