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Three More Years of Goldilocks?
The Fed forecasts 2.1 percent election-year growth. But that may be a low-ball estimate.

By Larry Kudlow

NRO 11/21/2007

There was some revealing information in the three-year forecast published by the Federal Reserve this week. It looks like Ben Bernanke & Co. are dissing high oil and gold prices and the sagging dollar as influences on future inflation. Instead they basically see 2 percent inflation — both headline and core — in 2008, 2009, and 2010. The Fed also sees Goldilocks-type economic growth — not too hot, not too cold — for the next three years.

For 2008, an election year, the Fed is looking at 2.1 percent growth, their lowest estimate. This rises to 2.5 percent in 2009 and 2010. A slower 2008 does make some sense given the lingering sub-prime hangover and the housing recession. But one wonders if the Fed might be thinking about higher tax rates under a Democrat like Hillary Clinton, which would produce sub-standard growth for the longer term.


Nevertheless, with the Fed forecasting 2.1 percent growth next year, it certainly looks like they’ll follow Treasury bond market interest rates down toward a 3.5 percent federal funds rate. (Of course, today’s rate stands at 4.5 percent.) On CNBC this week, former Fed governor Wayne Angell told me to expect this, and former Dallas Fed president Bob McTeer agrees. My own view remains the same: The Fed will skip a rate cut at their December 11 meeting in order to help stabilize the greenback in the foreign exchange markets. But they eventually will move their target rate down several times this winter.

That said, I think the election-year economy will be stronger than the Fed’s estimate — closer to 3 percent. Too much is being made of both the sub-prime credit problem and the housing downturn. A recent Bank of England study shows that residential mortgage-backed securities in the U.S. total $5.8 trillion. Of that, only $700 billion, or 12 percent, are sub-prime. Even when you add in $600 billion of so-called Alt-A mortgage paper, most of which will not default, the total of these home loans is still less than 20 percent of all mortgage-backed paper.

What’s more, the entire market in sub-prime debt is just 1.4 percent of the global equity markets. On any given day, a 1.4 percent drop in world stocks would erase the same amount of value as the collective markdown of all sub-prime-backed bonds to $0. It’s just not that big a deal.

And with all these problems, economic growth in 2007 will probably come in around 2.8 percent, a pretty good year. Plus, the Fed has already eased 75 basis points, which will stimulate next year’s economy. On top of all that, after-tax, after-inflation income is booming at a 4 percent rate over the past twelve months. Exports are strong, off-setting the housing slump. Both consumer spending and business capital investment are advancing. Tax rates will remain low. So all this talk of recession seems greatly exaggerated.

One key indicator in a presidential-year economic forecast is the stock market. Right now, stocks are in a classic declining-profits correction. This downward trend has so far reduced the Dow by roughly 8 percent. As a rough guess, a 10 percent correction ought to spell the end to the Dow’s slump. And Fed rate cuts should be a big booster for stocks. However, if the Dow correction extends to a 20 percent drop, it could spell recessionary disaster for Republicans next November.

As far as next year’s election is concerned, the investor class leans heavily Republican. They are a smart, savvy bunch, and they know darn well that Hillary Clinton won’t hesitate to raise taxes across the board. But if a recessionary bear-market rears its head, many investors may indeed revolt by voting Democratic.

We’ve seen this movie before, most recently in reverse. The year-2000 bear-market recession helped catapult George W. Bush in the polls while stymieing Al Gore. In the 1992 contest, although the stock market and economy were slowly coming back to life, the elder Bush suffered at the hands of Bill Clinton and Ross Perot mainly because of the recessionary bear-market credit crunch of the early 1990s.

So here’s my message to all the GOP candidates on the presidential campaign trail: You better have your specific pro-growth tax policies in order. Hillary Clinton and Barack Obama will certainly be raising taxes, and the GOP must cut them. So far, former Tennessee senator Fred Thompson is preparing to unveil a corporate tax cut for business income and capital gains. That’s what I call the right medicine for a sluggish economy. GOP candidates also should keep a close eye on the stock market. I still believe it’s the best political and economic barometer out there. 

— Larry Kudlow, NRO’s Economics Editor, is host of CNBC’s Kudlow & Company and author of the daily web blog, Kudlow’s Money Politic$.
Platino Brillante
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En víspera de la festividad del Día de Acción de Gracias las preocupaciones por la crisis crediticia toman cuerpo incluso en las festividades de Año Nuevo y los gastos de los consumidores.

Con el petróleo a punto de llegar a los 100 dólares por barril, alzas en el precio de la gasolina y descenso en el mercado de viviendas, las previsiones señalan un 2008 con el cinturón apretado para los estadounidenses.

El panorama sombrío pronosticado por Conference Board, economistas y organizaciones internacionales llevaría, según expertos, a que la Reserva Federal (Fed) deje inalteradas las tasas de interés en su reunión del 11 de diciembre.

Algunos analistas e inversionistas creen que será necesaria una tercera reducción de los tipos bancarios en la debilitada economía de Estados Unidos.



Platino Brillante
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The dollar's in decline. Great news!
The Times (London) ^ | November 23, 2007 | Gerard Baker

Americans paused at Thanksgiving yesterday for the traditional annual audit of their blessings. If they'd been listening at all closely to the morose lucubrations of their opinion leaders, however, it would have been pretty slim pickings.

The pundits have finally run out of bad news to report from Iraq, where, unmolested by the morbid fascination of misery-seeking reporters, the locals actually seem to be belatedly enjoying the first fruits of their liberation. So attention has turned again, as it has tended to do from time to time these past 50 years, to the inevitable collapse of the American economy.

The declining dollar is for many an ominous indication that the long period of US economic supremacy is at an end. In the past month especially, a nation that usually remains in blissful ignorance of the daily fluctuations of the foreign exchange markets has been repeatedly reminded that the dollar now buys a fraction of what it used to — down 35 per cent against the pound in the past six years and 40 per cent against that fledgeling monetary superpower, the euro.

Much has been written about the eschatological symbolism of the dollar's fall and the financial problems that have accompanied it. The apparent consensus among commentators here in America and especially in Europe is that the US has become a kind of Third World country, awash in debt and sinking fast because of a collapsing housing market and a banking system in meltdown. And all this is supposed to reflect in turn a seismic shift in the balance of global economic power away from the US and towards Mighty Europe and Emerging Asia.

Let me take a moment in this season of cheer to raise a few objections. The first and most obvious point is that there are many reasons why currencies move against each other, often in quite dramatic fashion. Seismic, epochal, geopolitical shifts are not usually the best explanation.

Rather, more prosaic facts such as differentials in countries' short-term interest rates, the rebalancing of temporary financial and economic imbalances and sudden changes in demand for and prices of commodities such as oil produced by particular countries — all of these help explain the dollar's recent decline.

US interest rates are on a downward trend, while European rates are steady and might even rise. The US still has a vast trade deficit, which is being reduced by a continuing fall in the value of the dollar. Countries such as Canada, which has seen the largest increase in its currency against the dollar, have been beneficiaries of the steep increase in the energy products they export. Another factor behind the current movements is the sensible shift by the world's central banks to a more balanced portfolio of foreign exchange reserves.

For the historically short-sighted, let's remember we have been here before. Between 1985 and 1995, the dollar declined by 43 per cent against the world's big currencies — somewhat more than it has in the past six years. That period was also marked by dire proclamations of the end of US economic power. But it turned out that in those years the foundations were laid for the strongest period of US economic growth in the past 35 years.

If you're still sceptical, ask yourself this: is it probable that the shift in the relative value of the dollar and the euro represents a bet by the world's investors that Europe — strike-torn, productivity-challenged, demographically doomed Europe — is the world's economic future, rather than the US, or, let's say, China? All right, but this is different, say the Cassandras. The US has been living on borrowing for years now. The world has finally woken up to America's addiction to debt — all that growth has been bought on the never-never and now, at last, the bill has come due.

The first thing to be said is that the level of public sector borrowing in the US is very small. The fiscal deficit, at just over 1 per cent of national income, is smaller than in most major European countries. It's true that America faces a large long-term fiscal challenge from an ageing population. But it's a smaller challenge than that faced by most of Europe, Japan or even China.

So if government borrowing isn't the problem, it must be the private sector that's neck-deep in debt, right? The general view is that Americans have irresponsibly fattened themselves up on widescreen televisions and gas-guzzling four-wheel drives, all paid for with easy credit.

If you look at a simple measure such as the savings rate — the proportion of income that is saved rather than spent — Americans do look pretty spendthrift. It is close to zero in the US, compared with 10 per cent in Europe and much higher in Asia. But focusing on this one measure distorts the full picture of America's household balance sheets. The reality is this: why save when the value of the investments you own is increasing at rapid rates? The total value of mortgage and consumer debt is indeed up by a massive $5 trillion since 2001, according to the latest figures published by the Federal Reserve.

But consider the increases in the wealth of Americans during that period. The aggregate value of houses alone is up $8 trillion. The increase in the value of stocks held either directly or through pension funds and other investment instruments is higher by another $8 trillion. That's an increase in net wealth of American households of $11 trillion in less than six years. That's about $90,000 for every household in the country. As someone once said, 11 trillion dollars here and 11 trillion dollars there and pretty soon you're talking serious money.

All right, but isn't the US going into recession, you say? Maybe, but so what? The US is overdue a recession by the standards of the business cycle in the past 60 years. It's possible the housing market and related problems will tip America into another one. Provided the people responsible get policy right, it doesn't have to be a depression.

So the dollar is falling for good, sound reasons that do not require a millenarian view of the global economy. It is yet another thing Americans should be thankful for.