Moon of Alabama Brecht quote
February 11, 2008

Fed Rate Cuts Kill People

On December 3 last year I argued that rate cuts will not help in the developing bank crisis but will have severe inflationary effects.

Central Banks should now push interest rates higher and stop the inflation trend before it gets out of control. To lower rates now will only feed another bubble, possibly in commodities, and lead to more pain and an even bigger bust later on.

On December 11 the Fed cut its lending rate from 4.5 to 4.25%. The Fed lowered its rate again on January 22 by an alarming 75 basis points to 3.5%. On January 30 it cut again by another 50 basis points to 3%. Additionally the Fed lightened restrictions for certain financial businesses. It flooded the markets with fresh credit to bail out the money men on Wall Street.

As predicted the Fed miss-action did not help where it was supposed to help. The fresh money is  not put to the intended use, but into new speculation. The financial markets are still in turmoil. Banks are still at the border of bankruptcy and some will step over it. But the rate slashes launched a new bubble.

Doug Noland at Prudent Bear reports in his weekly market review (scroll down to the last part):

On the inflation front, major commodities indices (including the CRB and the UBS/Bloomberg Constant Maturity) surged to record highs.  Platinum jumped 7% this week to a record on tight supplies and power shortages in South Africa.  Lead gained 5%.  Copper jumped 7.5% (biggest gain in almost a year), increasing y-t-d gains to almost 16%. Palladium rose to the highest price since 2002.  Sugar rose 5% on Friday, and I’d be remiss not to note crude’s 4% one-day surge.

Unlike bubbles in stock or mortgage markets, commodity price bubbles have deadly consequences.

In such speculation fever commodity producers hold back on their goods or even cut production in hope of further price increases. Exploding metal prices do not really hurt. But when agriculture commodity prices go through the roof, people in poor countries lack the means to buy their daily food. The consequence of exploding agriculture commodity prices will be mass famine.

Noland:

But when it comes to spectacular moves, wheat takes the cake.  Prices surged to yet another record high (up 30% y-t-d), as forecasts have U.S. stockpiles falling to the lowest level since 1948.  Global supplies are said to be the lowest since 1978.  Alarmingly, wheat increased the 30 cent daily limit in Chicago trading for five straight sessions, with Bloomberg reporting this week’s 16% gain as the “biggest in history.”  Prices are now up 140% y-o-y.  Along for the ride, soybeans rose 4% this week to a near-record ( U.S. inventories at 4-yr low), increasing one-year gains to 80%Corn prices gained 2% (having doubled in the past two years), also trading at record highs.  Production and inventory concerns saw coffee prices rise 5.8% this week to the highest level since 1999.  Cocoa gained 3.8% this week (37% 1-yr gain).
...
With trillions of dollar liquidity sloshing vagariously around the global financial “system”, there is clearly more than ample high-octane inflationary fuel to destabilize markets for myriad essential things of limited supply.

The mortgage bubble was created by greed and much too low interest rates. It finally went bust when the Fed increased its rates. But instead of letting the market sort itself out as it should, the Fed cut the rates again and with unprecedented speed. It induced a fresh bubble, this time in the commodity markets.

This new bubble party will continue until the Fed takes the punch bowl away. Commodity prices will rise further until the Fed increase its rate and mops up the speculative excess liquidity. With "Helicopter" Bernanke at the top of the Fed, this is unlikely to happen in time.

The direct consequence of the ongoing bail-out of irresponsible and greedy people on Wall Street is mass starvation because of exploding wheat, rice and other food prices.

The 'biofuel' madness adds to the Fed induced killing. To turn food into gas to run SUV's while people go hungry is the one of the most reckless policies I can think of. What is next? Soylent green?

Posted by b on February 11, 2008 at 10:54 UTC | Permalink

Comments

FT some days ago: Boom challenge for food aid policy

The global commodities boom has done more than enrich a few farmers. It has pushed hunger and malnutrition back up the agenda of aid donors and intensified the challenge to the United Nations World Food Programme, the biggest food aid agency, of feeding poor countries devastated by natural disaster or war.
...
The sustained rise in commodity prices has put huge strain on the budgets both of poor people in developing countries and the agencies trying to feed them in emergencies. The WFP's food costs have increased by 70 per cent in five years, with 20 percentage points of that in the past six months.
...

Posted by: b | Feb 11 2008 16:18 utc | 1

Thanks for this post b. It confirms what I’ve been thinking for quite some time now. I am pulling all my IRA funds from a stock market based portfolio and looking for a place to move them where I just might have a chance to have something during retirement. I don’t like the idea of commodities but have been tempted to buy some food commodity because it seems grain only has one direction to move in the coming future. But my conscience tells me I’d only be participating in the starvation of someone else in the world. Temporarily, I’ll move to a CD IRA with my local credit union but don’t think there’s any inflation protection there.

My thinking now is ‘take the tax hit and buy real estate or fix up my own dwelling with an added greenhouse so I’ll at least be a food producer and not speculator and at least have something to eat as the economy tanks.’

What a dilemma, but at least I have some choices while many in the working class out there don’t have. I’m grateful for that and maybe can even eventually help someone else to just eat.

Posted by: Juannie | Feb 11 2008 16:36 utc | 2

We already have mass starvation.

More than 10 million children (maybe even 20) die of hunger every year. Millions more suffer from malnutrition of various types, the diseases that come with it. All those who spend all or almost all of their income on food are now at added risk.

Grains, the basic staple:

About 36 % of grains (or cereals) are used for animal feed. (World.) In no particular order:

- less area devoted to grain production (eg 5% less p/a in Russia)

- lower yields in some places, mainly drought, but also floods

- agri. difficulties - seeds, investment, machinery, water, and infrastructure, subsidies (eg Indian peasant suicide)

- rising population, more meat eaters, more ‘western style’ consumers (China, india), all dependent on grains

- the ravages of the ‘economy’ which means that farmers grow (time to adjust, it is slow...), and sell, to the highest bidder (e.g. corn to ethanol, but not only)

- war, internal strife, destruction of agriculture to subjugate

- therefore restrictions on exports (China, Russia) and halving of exports for others (EU, Argentina) -roughly

Last but not least, Waste:

Britain throws out one third of its food:

Research by the government's waste reduction agency, Wrap, found that one third of all food bought in Britain is thrown away - of which half is edible.

http://observer.guardian.co.uk/uk_news/story/0,,2200647,00.html>guardian

Posted by: Tangerine | Feb 11 2008 17:33 utc | 3

Maybe I didn't expressed that well.

Yes, there are many reasons why food prices are rising - changing climate, bad weather, fertilizer costs, biofuel etc.

But all these can NOT account for the current jump in agri-commodities.

That jump was pure speculation fueled by Fed dollars. There is always this or that reason quoted for a movement in stocks and other markets.
There were hundreds of 'sane' resons mentioned why houseprices have risen for so long and always had to rise further.

But the real reason of the housing bubble were too low interest rates for a too long time. That moved prices away from fundamental trends to bubble territory.

That is exactly what has happend with commodities now. The have left the explainable landscape of fundamentals and jumped into bubble territory. Three years from now, or whenever the commodity bubble will inevitably burst, everybody will point to the fed.

I am just a bit early.

Posted by: b | Feb 11 2008 18:27 utc | 4

yes I agree b, but I just wanted to restate some basic facts, this or that happens on the ground, going up to the financial system is necessary but difficult (for me.)

Posted by: Tangerine | Feb 11 2008 18:40 utc | 5

I remember my shock, years ago, when, in my untarnished innocence, I learned that potatoes were exported (under armed gaurd)from Ireland to England. I also remember being slightly surprised to later learn that people who tried to tell the public in England about the famine were ridiculed in a manner similar to what we saw as the Iraq debacle was launched.

Many things change, but bullshit is the favorite spread although it continues to smell the same.

We'll see people starving on the evening news as we eat our dinner or munch our crunchies and the bobble heads will say,"My o my, how sad!"

Posted by: Chuck Cliff | Feb 11 2008 19:38 utc | 6

In an article on the credit crunch that reads more like coverage of a pandemic, the Wall Street Journal mentions another oopsie consequence:

Meanwhile, the Federal Reserve's interest-rate cuts, which were designed to reinvigorate the slowing U.S. economy, may be having unintended consequences in some quarters: sending investors fleeing from investments that do poorly when interest rates fall.
(snip)

Investors are also fleeing leveraged loans because the payments they make to investors are tied to short-term interest rates. With short-term rates falling, thanks to the Fed's rate cuts, those payments are shrinking.

Posted by: Alamet | Feb 12 2008 1:07 utc | 7

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