As Steven Roach notes, the financial markets have made a habit of testing new Fed chiefs:
Alan Greenspan faced a stock market crash two months after he took over in August 1987. Paul Volcker had to cope with a rout in the bond market three months after he became chairman in August 1979. G. William Miller was challenged immediately by a dollar crisis in the spring of 1978. For Arthur Burns, it was the inflation bogie in the early 1970s.
Should the Senate confirm Bernanke, there is no shortage of problems facing the new chairman.
Inflationary Pressures: For the last month, all of the Federal Reserve Presidents have unanimously stated in public appearances that the need to contain inflation was paramount to Fed policy. There is a lot of information supporting their concern. For the last few months, each Federal Reserve’s regional manufacturing report noted large increases in their respective prices paid components. Winter fuel prices are projected to increase 50-90%. The latest PPI number was 1.9% — one of the largest increases in recent years. CPI showed a similarly large increase of 1.2% — another large jump. Most economists place the blame on oil prices, which impact every aspect of the economy. With gulf refineries still not operating at 100%, oil’s price pressures will remain for the foreseeable future.
Balance of Payments Deficit: The US balance of payments deficit was 5.5% of US GDP last year – a level that has crashed other currencies. This number is projected to set another record this year. For the last year, the dollar has rallied versus other currencies, largely because of the higher growth and interest rates in the US. Although still growing, the US trade deficit has taken a backseat in forex trader’s trading. However, forex traders are unfamiliar with Bernanke. There are conflicting views on his theories. Markets don’t like uncertainty or untested leaders. Bernanke’s new status as Fed Chief may be all the impetus forex traders need to aggressively sell the dollar, citing the trade deficit as the primary reason.
The Housing Bubble: Earlier this year, the FDIC identified over 50 housing markets in a “bubble.” However, there are many indicators this bubble is ending. Inventories have been increasing for the last 6 months and have also increased from year ago levels. Recently released numbers on new and existing home sales show all markets except the south slowing. Interest rates – and mortgages — are creeping up. Consumer confidence is way down – indicating consumers may delay buying a new home.
Heavily Indebted Consumer: Consumers have taken on an extraordinary amount of debt to keep the economy afloat. The household debt service ratio stands at record levels. Mortgages outstanding have nearly doubled in the last 4 years. Wages after inflation are nearly stagnant for the last 5 years, indicating interest and principle payments are taking a larger portion of most people’s monthly budget. To pay down debt, consumers will have to slow down their spending, which in turn will slowdown the economy.
Greenspan has been a staple of the US economy for the last 18 years. Regardless of your opinion of him or his policies, for almost two decades there has been consistency to US economic policy from the Federal Reserve. That is about to change. Take the record of early problems for new Federal Reserve chairman and combine it with the fundamental underlying problems of the US economy, and you get a high possibility of a problem bubbling to the surface to challenge the new Fed Chairman.
