Wednesday, June 04, 2008
The United States is famously home to the world's porkiest population, with obesity well in excess of "epidemic" levels. Not everyone in America is unfit, of course; indeed, in Macro Man's experience those Yanks who pursue a fitness regime fall into another extreme altogether. Still, there's a "pleasantly plump" middle ground, many of whom would like to shift a few lbs. America being America, this has turned into quite an impressive industry for diets and other food-based weight loss systems. Over the past fifteen years there's emerged quite a fad for high protein, low-carbohydrate diets, which hold out the promise of losing weight while eating bacon and eggs for breakfast, a roast chicken for lunch, and a fat, juicy steak for dinner. Judge for yourself whether or not this is too good to be true.
Among the most famous of these regimes is the Atkins Diet (whose founder may or may not have died in a clinically obese state, depending on what you read.) After yesterday's remarkable speech from Ben Bernanke, Macro Man is wondering if the Fed hasn't gone on the Atkins or some other low-carb diet. For having eaten a steady diet of toast for the past nine months, the FOMC now appears to be worried about the level of the dollar.
Bernanke devoted an entire paragraph to the dollar in yesterday's speech, with the text coming under the heading of "The Federal Reserve's Policy Response":
In collaboration with our colleagues at the Treasury, we continue to carefully monitor developments in foreign exchange markets. The challenges that our economy has faced over the past year or so have generated some downward pressures on the foreign exchange value of the dollar, which have contributed to the unwelcome rise in import prices and consumer price inflation. We are attentive to the implications of changes in the value of the dollar for inflation and inflation expectations and will continue to formulate policy to guard against risks to both parts of our dual mandate, including the risk of an erosion in longer-term inflation expectations. Over time, the Federal Reserve's commitment to both price stability and maximum sustainable employment and the underlying strengths of the U.S. economy--including flexible markets and robust innovation and productivity--will be key factors ensuring that the dollar remains a strong and stable currency.
Now, the responsibility for driving policy preference for the external value of the dollar rests with the US Treasury. The Fed may of course take the dollar into account when setting monetary policy, but commenting on the dollar's external value rests solely with the Treasury Department. Bernanke and Paulson may be golfing buddies for all Macro Man knows, but those au courant with standard operating procedure inside the Beltway will recall that at staffer level, the Fed and Treasury do not get along.
So what are we to make of the fact that Bernanke addressed dollar weakness in yesterday's speech? Macro Man can think of two options:
1) The hesitant, stuttering academic Bernanke has made a power grab more audacious than anything that the imperious Alan Greenspan ever attempted, or
2) US policymakers really are worried about the inflationary consequences of a weak dollar. Why might this be? Well, with both prices and expectations rising, inflation is clearly an issue for the US. More dollar weakness might handcuff the Fed's ability to cut rates further if necessary, or could indeed prompt rate hikes before the economic cycle would dictate. Recall that the inauguration of the strong dollar policy in 1995 (the selfsame whose bedraggled carcass is still trotted out today) was prompted by Treasury's desire to give the Fed leeway to cut rates during the mid-cycle slowdown.
Of the two, Macro Man will plump for option B. Not that it necessarily means much, of course; there is little to suggest that tangible policy action is in the offing, and China by itself could take down the entire FX reserves of the Fed, Eurosystem, and even Japan and still have the third largest reserve basket in the world left over!
But still....the fact that American policymakers have started to give a crap about the value of the dollar, however fleetingly, surely must take some of the shine off the dollar down bubble for now. From Macro Man's perch, there isn't a good "dollar trade" at the moment; he finds other asset classes much more interesting.
Equities are pretty high on that list, as the bad hair day came late in the US session and has carried over this morning. Financials are particularly under the cosh, with Lehman Brothers' name appearing often enough to suggest the presence of smoke, if not fire. Now, everyone that Macro Man has dealings with at Lehman has been absolutely first class, and in his space they have a good name. But these days if some anonymous clown in another department has made a big bet that's gone wrong, the market will shoot first and ask questions later.
The FTSE and Eurostoxx (pictured below) are both breaking through key levels; if the S&P can duck under 1370 for more than a milisecond, these markets could get very interesting indeed.