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DAVID KRUSE

By Staff | Aug 14, 2015

If the U.S. economy was performing at a level building on an economic recovery today, worthy of interest rate hikes, the Fed should be taking the punch bowl away as the party was threatening to get out of hand.

I don’t think that we have that kind of economy. It is the job of the Fed to get the party started, but then to keep it from shaking the house down.

The International Monetary Fund has been warning the Fed that the global economy is not celebrating and in fact, Brazil, Russia, India, China, and South Africa party goers are all suffering severe hangovers.

Fed rate hikes do not happen in a vacuum globally. First of all, the evidence that the U.S. party has gotten so over-excited that cold water needs to be thrown on it, would appear preposterous.

The Fed wants to anticipate the party getting out of control by staying out in front of wage and price inflation but quite frankly the error here is that they will shut off the party with rate hikes and it never gets going.

Bear markets in commodities are deflationary. Any retail price hike in commodities is transitory in a bear market. The Fed likes the word transitory, but it is as applicable to inflation data just as it was to fundamentals such as tough winters that have drug down Gross Domestic Product growth. Retail gas prices, for some reason, have not come down despite another $10-17 per barrel decline in crude oil prices, but they will.

The entire commodity sector from slowing GDP in China, lower U.S. net farm income, declining farm spending, falling farmland values, and cash rents are all deflating lower. Some pundit noted that the price of haircuts rose 2.8 percent over the last year calling it inflationary.

That is probably because they had not gone up for several years and needed some adjustment. I don’t think haircuts are overpriced and if consumers disagree they will respond by going unsheared longer so the net cost may actually decline if studied.

What percent of GDP do you suppose that haircuts make up?

Peak employment has passed for this business cycle in our region. Lower net farm income will work through the Midwest economy as will the deflation in the energy patch where layoffs continue.

The U.S. economy is not at a point where it is going to dramatically extend its stride. Too many weak factors offset strong ones so that the sum total is flat-modest growth. There is no party here threatening to get out of control that the Fed has to squelch with higher interest rates.

The point of extreme low interest rates was to force investors into doing something with their money that will boost economic activity.

Leaving it to sit in a bank is not an investment nor does it spur any if the bank doesn’t lend. Recent Fed action requiring banks to retain larger amounts of capital is counterproductive to lending.

What some economists fear is that given extraordinary low interest rates that we have seen the limits of what monetary policy can do to spur the economy. If this is it, then there is reason for concern.

While the Fed policy provided critical support for the economy that averted a depression and generated an economic recovery; it is becoming more evident all the time that while Fed policy brought the U.S. economy back to the surface from drowning, it did not put it on a speed boat.

It is doing little more than floating along on its back. The Fed stopped offering flotation, ending quantitative easing. There is still no evidence that the pool party has gotten so ructious that the Fed should intervene.

If the Fed raises rates it would be like throwing it a rock to carry. Yet there is great pressure, some of which is ideological and some that is just plain not dealing with the reality that the current economic condition is no way comparable to what most have experienced since WWII.

I read where the Fed has kept interest rates low for six years as being some kind of record and that is not true. The commercial bond market stayed at an extraordinary low level for 15 years during and following the Great Depression. We are not even half way there yet. If they do raise rates it will be symbolic and superficial because that is all the economy can stand.

Congress’s roll in this economic recovery has unfortunately been to primarily throw hurdles in front of it either by means of overregulation and misguided policy or by seeing to it that job growth was curtailed so that Obama would not get credit for it.

At least during the Great Depression the U.S. government managed some great infrastructural work that still pays economic benefits today while now neither a Democrat nor Republican led Congress can even pass a simple long term transportation bill.

The extraordinary low interest rates have allowed the Federal government to finance deficits without breaking the bank.

It also gave Congress the time and opportunity that it needed to enact substantial fiscal and entitlement reform.

Congress has piddled away that opportunity doing little more than Greece relative to reform while being adept at playing the blame game.

If the U.S. economy falters it will not be the fault of the Fed but Washington’s failure to perform.

The Fed has a conundrum to deal with. If they don’t raise rates it would confirm that the economic data is weak and cannot support it, which is problematic.

To cover up that reality if it goes ahead and increases rates to meet expectations and produces a recession, they will get blamed for that.

The dysfunctional Congress would be quick to use the Fed as a scapegoat. I have stayed on the side of historical comparison that this period of extraordinarily low interest rates will continue. No party in the USA yet!

David Kruse is president of CommStock Investments Inc., author and producer of The CommStock Report, an ag commentary and market analysis available daily by radio and by subscription on DTN/FarmDayta and the Internet.

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