In some quarters, the importance and traditional economic indicators is being undercut by the negative – and largely immeasurable – effects of the credit crunch, which has hurt Wall Street as much or more than Main Street, prompting large write downs because of devalued subprime loans.
Some economists say that great unknown warrants an aggressive Fed and that the Fed is indeed compensating for that.
Crunching The Numbers
“The Fed “is doing the right thing,” PIMCO portfolio manager Paul McCulley told CNBC, and is in "full-blown risk management,” even if it is not forecasting a recession. Risk management is "all about talking out insurance,” McCulley says more rate cuts – he’s guessing half a percentage point Wednesday – are appropriate.
“Housing in recession,” echoed Gary Schilling, president of A Gary Shilling. “Other markets are becoming unglued.”
For all of the doom and gloom about the credit crunch, it is unclear how much damage it has created other than losses and writedowns at financial powerhouses like Citigroup and Merrill Lynch and the near failure of Countrywide Financial .
Brusca, Bhagavatula and others say some of the Fed’s other liquidity measures have been effective in dealing with the credit crunch by restoring interest-rate spreads to healthier levels and spreading the risk.
Scott Rothbort, president of Lakeview Asset Management, disagrees, adding that the Fed needs to “get the yield curve to a point where people want to lend money again.”
Rothbort, who is also a professor at Seton Hall University's Stillman School of Business, is among those who say the Fed remains behind the curve in cutting rates and that the FOMC needs to cut more – anywhere between a full percentage point to one and a half percentage points.
“I think they're looking at the economic data but slowly arriving at the conclusion that Wall Street is a lot smarter that it's given credit for,” says Rothbort.
Wrong Either Way
In the end, what the Fed should do and elects to do are two very different things. What’s more critics of both persuasions and supporters alike say the market is likely to be disappointed by the Fed’s decision Wednesday.
Both Interest rate doves – those who want a cut of at least half a percentage point – and inflation hawks – those who would like to see no change in policy and/or a change in language indicating the Fed may be nearing the end of its easing cycle – say the Fed has little credibility with the markets. As a result, it is very vulnerable to second guessing and negative reactions in the market.
Bhagavatula says the Fed has been “introducing more volatility into the economy.”
Rothbort thinks half a percentage point is warranted but thinks a quarter-point cut is a more likely outcome, which will only "disappoint and exacerbate the problem.”