This is the guest post made by Andy Bebut from the Yellow Brick Road blog
Today the Federal Reserve made a surprising move to increase the discount window rate by 0.25%. The move is already covered in all respectable financial blogs so I feel necessary to add my 2 cents.
The first thing to keep in mind is that this move is truly symbolic. The outstanding discount window credit is something like $14 bln, virtually nothing. This rate doesn't mean anything really.
So what it is? It's a message, which I want to discuss.
The typical reaction of the average blogger is that Bernanke is crazy anyway and is not aware that the economy is struggling, is living in his dream of 5% GDP growth and is already discussing the exit strategy. Well, if that's true there is not much to discuss, crazy is crazy.
But my axiom is that Bernanke knows the economic situation better than the average blogger and his economic knowledge is unsurpassed. And his move makes a lot of sense. In fact, if I can imagine myself as a member of a voting committee I would vote "for".
The kludge to understand what I'm going to say is in this perfect interview by Andrew Smithers. He is suggesting that the top priority of the Federal Reserve must be to prevent any asset bubble, even if it means another recession soon enough. The best rate of he economic growth would be just 1%-3%. If we overstimulate the economy and start growing at 5%+ it may end badly, because such a growth will inevitably produce another asset bubble. When it pops the economy will enter the even worse recession than we had in 2008.
He is saying that the stock market is overvalued by about 40% and another 10% up will end with disaster. What is needed badly at this stage is to slowly deflate the bubble in stocks, commodities and gold. After the prices decline they must not be allowed to grow ahead of the fundamentals.
He also suggested that the paranoiac fear of deflation is not warranted. Just a bit of deflation, under -1%, will not hurt at all but will help contain bubbles and ensure slow growth.
I perfectly know that the 4Q GDP growth was bogus. And Bernanke knows it very well. But still, if we have to pop the stock market bubble, it's the best time to do before this growth subsides.
The whole purpose of this engineered rally was to allow the financial sector to sell new shares and raise much needed capital. It is done, mission accomplished. Those who were unable to raise capital when S&P was at 1150 are hopeless anyway. Now this game is over and the priorities had changed. The healthy 15% correction and $50 oil is what we need now.
Let see if it works.