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NEW YORK (TheStreet) -- With interest rates having been so low for so long, the stock market is in uncharted waters, Jim Cramer told his Mad Money viewers Friday, as he dedicated the entire show to demystifying the Federal Reserve and its many powers over the markets and the economy.
When the Fed cuts interest rates, it's trying to ignite the economy. Conversely, when it raises interest rates, it's trying to rein in the economy and ward off inflation. The key to investing, however, is sticking with long-term themes that make money no matter what the Fed is up to.
So how did the markets end up in no man's land? Well, after raising interest rates 17 times between 2003 and 2006, the Fed failed to adequately consider what those increases were doing to the housing market and how inextricably linked our economy is to housing. After an abrupt about-face, the Fed has since been doing everything it can to reignite our economy by cutting rates to near zero, then by buying bonds to lower rates even further.
Low interest rates affect the stock market in several ways. They stimulate hiring and spur consumer spending, from homes to autos to retail, all of which accounts for nearly two-thirds of our economy. Low rates also allow companies to expand and finance mergers and acquisitions.
So now that the Fed has done its job, the rest of the economy is beginning to take over.
Worry About the Dollar
Now that the Fed has switched its stance from from cutting interest rates to raising them, it has once again become the enemy of higher stock prices, Cramer told viewers. It can be a powerful enemy if it moves too quickly.
But while some believe the economy is too weak to handle even the slightest rise in rates, or that stocks will immediately lose their status as the only income vehicle worth investing in, Cramer said he doesn't see either of these as issues until there have been multiple rate hikes. After all, the U.S. economy has done quite well in the past with a 4%, 5% and even 6% federal funds rate and we're nowhere near those levels.
What does Cramer worry about? The strong U.S. dollar. Higher short-term interest rates will make the U.S. a magnet for money around the globe and that will only continue to hurt our exports. That's where the term "Don't fight the Fed" comes into play, Cramer noted, as those who have the Fed wind at their backs always come out ahead.