Kudlow’s Money Politics

The Fed’s Blowing Smoke

The Fed is blowing smoke, pure and simple.

There is only way to clear up overly tight money and the credit squeeze and that is to slash the federal funds rate. Or, better yet, let it float – add just enough new money to right the anti-growth yield curve.

All of this extra liquidity facility discount window talk is a bunch of rigmarole. It didn’t work last August, and it ain’t gonna work now.

This latest news about the term auction facility reserve adding process is merely a tactic to buy time before the next FOMC meeting on January 30th. And the overnight indexed swap rate is 4.098 percent, which is a slightly lower cost of money from the new 4.25 percent fed funds rate. So there’s a tiny advantage for bank borrowers.

But banks can bid for fed funds in the overnight market right now. The problem is that the current 4.25 percent fed funds rate is too high, relative to the entire Treasury yield curve, which is anchored by a 91-day T-bill rate that’s below 3 percent. The Fed needs to right the inverted yield curve. That’s why they have to be more aggressive in bringing their target rate down much more.

In the months ahead, the fed funds rate will land somewhere near 3.5 percent. And a ’shock and awe’ 50-basis point cut Tuesday would have brought down the London Inter-Bank Overnight Rate (LIBOR). That by the way, would have helped out struggling adjustable rate mortgage holders.

In the end, Goldilocks is going to win because the Fed will finally get the drill. They are going to cut the funds rate many more times. The academic bureaucrats will finally come to their senses. But their performance this week has been nothing short of pathetic.

The bottom line here is simple: The Fed is moving way too slow.

Larry Kudlow — Larry Kudlow is the author of JFK and the Reagan Revolution: A Secret History of American Prosperity, written with Brian Domitrovic.

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