Fed Must Respond to Inflation Threat
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The machinations of the US Federal Reserve are uppermost in the minds of investors — and the media. The Fed is in a jam. On the one side slowing growth and the specter of the credit crisis. Rising inflation on the other.
“The inflation outlook right now is as scary as it has been since Paul Volcker grabbed his lance and impaled the dragon in 1979,” says Bloomberg.
“Back then, Volcker inherited a year-over-year consumer price inflation rate that soared to above 14 percent. His aggressive actions hurled the economy into a deep recession, but inflation ever since has remained in the single digits.”
“There are still some things the Fed could do,” says the Financial Times.
It could in the coming days expand its credit auctions, or extend the period for which they are available, perhaps from one month to three months. It could signal its willingness to extend the life of its emergency lending facility for investment banks, scheduled to expire in September.
It is already working on ways to make it easier for private equity firms to invest in banks. But it looks as if interest rate cuts are off the table, and the question is only when and how quickly the Fed will start raising them again.
Meanwhile, the unloved dollar suffers. Yesterday, it fell to a one-month low against a basket of major currencies. Forex traders know that interest rates may not hold for long at a measly 2%.
But the US is not the only country buffeted by the winds of inflation.
“Year-over-year consumer prices in Vietnam just surged by a whopping 26.8%,” says currency expert Jack Crooks in The Sovereign Society.
“The month-over-month numbers jumped a cool 2.1%. To put that in perspective, 2.1% inflation is what the Federal Reserve considers a comfortable pace for inflation for the entire year.”
According to Jack, there are over 50 different countries around the world battling double-digit rates of inflation. Most are emerging markets. And all, says Jack, are at risk of transforming “from an appealing growth story to an economic disappointment.”
But the difference between these emerging markets and the US is stark. Banks in these nations are working to counter inflation. The Fed, meanwhile, wrings its hands but does nothing… More from Jack:
After witnessing how the Fed shredded the dollar’s value and slammed stocks by ignoring inflation, emerging market central banks are stepping up to the plate:
- We know that China is already making strides with its currency. Interest rate increases highlight their efforts.
- India’s central bank raised its benchmark rate by 50 basis points, to 8.5% with immediate effect. That’s its highest rate since March 2002 and the second increase this month. It also signaled that it would act again if needed.
- The State Bank of Vietnam sharply raised its benchmark interest rate to 12% from 8.75%. That’s an aggressive effort to curb surging inflation and tighten lending. Commercial banks are now allowed to offer depositors rates of up to 18%.
Interest Rates: The Quicker Currency Picker Upper
Will this bias toward tightening monetary policy spark a new emerging market Forex rally? Adjusting monetary policy to fight off inflation should normally support a country’s currency. The logic here is that interest rates are going up and the investment appeal rises with it.
Mexico’s peso strengthened to a five-year high after the central bank unexpectedly raised its benchmark interest rate a quarter percentage point to 7.75%. The same thing happened in Brazil. Bonds also rose because investors gained confidence that the proactive monetary policy would curb inflation and help preserve the value of debt’s fixed payments.
Bottom Line: Monetary policy has been too accommodative and must respond to the growing inflationary environment. The rising prices will require that most emerging market central banks take action. By working to strengthen the currency’s value they can hope to ease the strain of crude and food costs.
The line in the sand is quite fine. That’s going to make it easy to scrutinize the efforts, or lack thereof, central banks take to counter inflation.
JACK CROOKS, Editor of World Currency Options and The Money Trader
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Source: Think Inflation in the U.S. Is Bad? Wait Till You Hear This…
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Tags: Ben Bernanke, Fed Rate Cuts, Federal Reserve, Global Inflation, Investing in Vietnam, Jack Crooks, US dollar, Us Inflation Rate, US recessionAbout the Author
Jack Crooks is editor of World Currency Options, and a contributor to the World Currency Watch blog. Jack is a seasoned investment adviser, who has held key positions in brokerage, money management, trading, and research. He is the founder of Black Swan Capital, a currency advisory and management firm, and of Ross International Asset Management.
The Offshore A-Letter specializes is an elite global investment opportunities, asset protection strategies, tax management solutions, second citizenship and residency programs and offshore structures.