Who’s afraid of the big bad economy?

Politicians, facing public outcry, are guilty of endorsing short-term solutions to a long-term problem.

From St. James’ Palace to Piccadilly, St. James’ Street in London is rich in tradition. To some, the infamous gentlemen’s clubs are the main attraction, and further the various shops to be visited. But to others, the appeal lies with the ideals and intellectual prowess that are born out of the desire “to take part in a severe contest between intelligence, which presses forward, and an unworthy, timid ignorance obstructing our progress.” In this column, you can expect the fight to be continued.

Here at St. James’ Street, the writing will always be in defense of all that makes the world prosperous: democracy, economic liberalism, human and civil rights, individual liberty, responsible government, legal immigration, religious toleration, global development and integration. Should the reader attempt to apply an ideological litmus test to this column, they have missed its intent. Labels such as Democrat, Republican, liberal or conservative are inherently limiting and inimical to attaining a higher understanding. The issues of the world today nearly always transcend partisan bounds. St. James’ Street will be the supporter of the most radical position possible in politics, the extreme center. While at times esoteric, never will your correspondents’ analyses surrender itself to emotion.

How best to launch this column? A discussion of the economy seems appropriate. Last week’s market performance seemed to exhibit the omniscient presence of Ben Bernanke and the boys over at the Federal Reserve Board as rate cuts took the form of a cure for January’s “sell-off-itis”. Washington wants in on the role of playing the economic babysitter also, it would seem. Congress is rushing to pass a fiscal-stimulus package valued at just over 1 percent of our gross domestic product. So who’s complaining? Short-term investors certainly aren’t. High market volatility, Fed bailouts and cheap loans mark the breeding ground for the intraday investor. Our quasi-private central bank, if to serve any benevolent function should advocate for the long-term investor, economy and the dollar. Jenny Harrington of Ameriprise Financial, in a discussion with your correspondent, says that such advocacy is needed, as the long-term investors are now the ones most panicked (she even uses the word “irate”).

Much unlike former Fed chairman Alan Greenspan (also called Quarter Point Al – a nickname given for habitually cutting no more than one-quarter point at a time) – the Fed has shied away from the watchdog role and adopted one that is closer to a ferret chasing around the Standard & Poor’s at its heels with the 125 basis point cut that started on January 22.

Even in the midst of the rate cut hype, analysts are protesting on philosophical grounds as much as economic ones. In blunt truth, the action taken by the Fed is rewarding those who took part in reckless lending and borrowing. Financial markets have indulged in sustained economic growth since early 2003. As the markets set records in October 2007 and the Dow Jones Industrial Average surpassed 14,000 points, it’s no wonder we find ourselves in a downturn. The market had simply become inflated.

To further complicate the problem, the inflation issue is not exclusively domestic. Shortly after markets hit their historical highs the dollar was hitting record lows. On November 7th the dollar was worth .92 cents to C$1, and many Americans found themselves tripping over Canadians while doing their Christmas shopping. The American dependency on global capital flows of approximately $900 billion further darkens the dollars’ position. As global inflation becomes increasingly feral, central bankers in other countries have exhausted every public policy measure to keep inflation in check. Needless to say, it is not a big surprise that other counties are not following with the Fed and adopting an aggressive cut policy.

With interest rates now at 3 percent and potentially dropping down to 2.25 percent by the end of the year, the Fed is running out of leverage to keep investor sentiment in high spirits. According to Fed historian Allan Meltzer the Fed, “put all of its chips on the prospect of a possible recession, and very little on the possibility of inflation.” The justification for the fast-acting rate cuts (which actually take months to come in effect) is they are a quick response to stave off the dreaded R-word.

Should the United States fall into a period of high inflation, and rate cuts are certainly making it possible, the Fed will have no other option but to once again raise rates while markets are still on slippery foundations. Not only could that hurt the credibility of U.S. markets as single steady global financial epicenter, it could cause a market spiral greater than the current slump the Fed initially intended to ease.

So was last week a triumph for the Fed? Even the intraday traders, who are currently finding a friend in the Fed, seem to be unconvinced, as the only day that the market closed down was the day the Fed cut. The cuts themselves did alarmingly little, as the markets largely brushed them off. The actions of Bernanke may have been too near-sighted, as he now seems a lame duck as further economic troubles are exposed (recent employment data is now cause for concern), but he is not alone in his failings. Politicians, facing public outcry, are guilty of endorsing short-term solutions to a long-term problem. The $150 billion stimulus package may be wise by some accounts, but only if it is distributed quickly. Alas, politics and economics hardly make good bedfellows. The stimulus package already is being delayed by partisan bickering. Cheers to the House of Representatives for shelving ideology in favor of helping the nation, and shame on Senate Democrats for attempting changes that were guaranteed to be disputatious. Any “fix,” if there is one, must involve Party consensus.

One should not despair, however, as all is not lost. Analysts expect any recession to be brief, though its effects will linger. Also, the cheaper dollar and a more expensive Euro boosts U.S. exports to an eager developing world, which will minimize the seemingly inevitable recession. St. James asks Americans to remain composed and to look at the long-term, which will help curtail the ill-conceived policymaking that is all too realistic during trying times. Indeed, that may be asking too much.

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