Friday, October 26, 2007

The Fed Will Cut, But How Much

I think the whether or not they will cut case is closed for next week's meeting and all that is now left to discuss is how much.

Vincent Reinhart, who was director of monetary affairs and secretary to the Federal Open Market Committee for six years before stepping down this summer to join the American Enterprise Institute, said: "I would expect them to ease another quarter point at the coming meeting," in an interview with the Financial Times.

Inflation is clearly under control at this point and recent earnings news and forward expectations have fallen indicating weakness in the overall economy. A recession is a very unlikely event but the Fed's mission is not to just avoid recession but to ensure growth. So, where do we go?

A 50 point cut I think would panic the markets in a "things must be worse than we thought" scenario. 25 points gives the markets the easing they want, takes more pressure off the financials and does not induce fear. It also leave plenty of room for further easing down the road should it warrant. The DOW and S&P will jump on the news but the main beneficiaries will be the financials.

What remains just as important as the action (or inaction) is the statement given by Bernake & Co. give. This one is simple. Now that inflation remain constrained, the Fed has the ability to go to a totally neutral stance. "The Fed remains neutral as to the risks of inflation vs growth".

That is a good place to be...


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