The Fed: Between a Rock and a Hard Place

The Fed has lowered their expectations for economic growth for the coming year. This should not be a surprise to anyone unless they left the planet for the last six months. Quite simply, we are now between the proverbial rock and a hard place. Let me explain.

This country’s economy runs best when energy is cheap. Specifically, when gasoline and diesel fuel are cheap. Everything we eat, wear, drink or consume in some form or another is brought to us by train, truck or some energy consuming vehicle. Anyone who was watching the prices at the pump for the last year to 18 months could see the hand writing on the wall. Let me just say here, without pointing any fingers at anyone, more should have been done and more should be done to bring down the cost of gas and diesel at the pump. You can’t take the air out of the ball and expect the game to have the same bounce.

The housing bubble and the sub prime mortgage mess are real serious problems, and if that was all the Fed had to deal with, the easing of credit by lowering the Fed funds rate would certainly bring confidence back in many sectors. But, the economic situation the Fed now finds across the landscape is much more complicated than what simple monetary policy can fix.

Because we are dependent on foreign oil, and because our government is spending more than it is taking in and having to borrow more money in the capital markets, and because oil is traded in US dollars and the US dollar is declining in value, our central bank, The Federal Reserve Bank, (that is being asked to be the savior of our economy), finds itself between a rock and a hard place.

The Fed can only do so much. Their tool bag consists of: 1) Open Market Operations, the buying and selling of US Treasuries to add or take away reserves from the system, 2) the raising and lowering of the Fed funds rate, (something they have been doing lately quite often) and 3) setting the reserve requirement for the banks. And yet, the Congress wants miracles from Ben Bernanke and the rest of the Fed players. As a former President once said, “give me a break!”

If I had one bolt of lightening from the economic gods, I would throw it with all my strength at the price of oil, gasoline and diesel at the pump. If I could change one piece of the economic equation, I would throw that lightening bolt directly at the cost of oil. As for the sub prime mortgage mess, I will save that discussion for another time. Stay tuned.