Another Fed Ease Is Questionable Medicine

But the cold reality of 331,000 more in the jobless ranks will keep the Fed on the cutting edge.
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When the last holdout capitulated early last week, resulting in a unanimous opinion across the Fed's community of primary dealers that the Federal Open Market Committee will trim another 25 basis points from its fed funds target Tuesday, I started to rough in an argument that this time they'd all be wrong -- the Fed would stand pat.


employment report debacle put paid to that idea. I'm not saying the consensus can't be wrong -- but those job losses mean I'm not going to predict it.

There really isn't much downside to the Fed to another 25 basis points of ease on top of the 450 already provided this year. And there is significant downside risk to its reputation capital, on Capitol Hill if not on Wall Street, in a stance that might be seen as downplaying the loss of 800,000 jobs in two months.

When there is a consensus as tight as the one that sees the Fed cutting its interest-rate target for the 11th time on Dec. 11, my crabby instinct is to ask what's missing in the picture that everyone seems to see so clearly. Quite a bit, when you think about it.

Take market action, for one argument. Stocks have soared, with techs, cyclicals and other high-beta sectors doing particularly well. Treasury coupons have been drubbed, just drubbed without mercy.

Industrial metals prices have bounced. These are all quicksilver market judgments that can change without notice -- stocks and metals did back off on Friday -- but market price action is about as close a read on the outlook as it's possible to get in real time. None of these moves, sustained over the past month, can be taken as a prediction of, or a plea for, more Fed ease.

The November numbers that kicked off the Christmas shopping season are a bit soft, but the free-financing induced surge in spending in October insures a firm fourth quarter for consumer outlays. Production, as measured by a

National Association of Purchasing Management index, rebounded in November, as did new orders, but output is still running far below uptake.

That means the shelves are being swept ever more thoroughly of inventories. Which means the business sector, one, is going to have to pick up the pace substantially in order to meet even the current level of demand or, two, is planning on going out of business without telling anyone. Did you see on the nightly news the selection of merchandise available for sale last week at the newly reopened Kabul bazaar? That's pretty much the inventory situation in this country, too. There is a meaningful pop to next year's gross domestic product implicit in the fact that the economy soon will stop hitting itself in the head with the inventory liquidation hammer.

Then there is confidence. The University of Michigan survey showed a small uptick for December, which struck me as a faint version of the sentiment I observe in daily life -- research by just walking around, to borrow an old management slogan. I don't know if America has a mean streak, but people from all walks of life seem colder, harder, more defiant and more bloody-minded, to borrow a phrase from the Brits, on the subject of terrorism than on anything else in my experience. Fighting mad and fighting back -- the mood is not consistent with lingering recession.

But the loss of 331,000 jobs in November, half of them in manufacturing, on top of the revised 468,000 estimated for October, is too gruesome a political fact to downplay or ignore. In the context of cyclical adjustment, it is reasonable to argue that we are right now at the point of maximum job market stress, that subsequent reports will be less negative, that the bottom is now. If you believe that, and if you make policy on a forward-looking basis, you might be tempted to downplay the importance of this coincident indicator and its associated lagging indicator, the rate of unemployment, which popped to 5.7%.

But the Fed has abandoned the pretext of "preemptive" policymaking. Given all that has happened since, it is easy to forget the impassioned speeches that Chairman

Greenspan used to give in the mid-1990s about the importance of being ahead of the curve. By acting pre-emptively -- tightening before it was clear that tightening was needed, and likewise for easing -- the Fed would blunt the cyclical dynamism of the economy: It would round off the tops and cushion the bottoms. But by waiting for confirmation, i.e., acting coincidentally, it would risk a pro-cyclical effect, spiking the tops and deepening the bottoms.

The Fed's party line changes from time to time, and necessarily so in changing conditions. But it is important, for fullness of perspective, to recall the old verities and see how they stack up in the new situation.

I won't be surprised next year to hear the Fed come in for a lot of second-guessing about having gone too far with its 2001 easing initiatives. It has caught plenty of grief for the 50 basis-point hike of May 2000, the straw that in the minds of some critics broke the economy's back. These "last" easing moves, and they are almost surely the last, will get the same kind of you-should-have-quit-while-you-were-ahead review during the upcoming expansion phase of the cycle.

My point is not that the Fed won't ease, or shouldn't, but that we need to understand the nature of the circumstances facing our policymakers. It is a more complex, more deregulated world. It is more difficult to predict and much more difficult to influence or control. It is more dynamic, both up and down. In a word, it is more volatile.

If your job is to "lean against the wind," and the wind now blows more strongly and switches directions suddenly, you better have the footwork and the sheer mass of an all-pro offensive lineman. That's the world the Fed lives in now, and that's our world, too.

Jim Griffin is the chief strategist at Hartford, Conn.-based Aeltus Investment Management, which manages institutional investment accounts and acts as adviser to the Aetna Mutual Funds. His commentary on the financial markets is based upon information thought to be reliable and is not meant as investment advice. While Griffin cannot provide investment advice or recommendations, he invites you to send comments on his column to

Jim Griffin.