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Minyan Mailbag: Watch What The Fed Is Doing, Not Saying

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...it seems pretty obvious where the US' final destination lies, and that's stagflation at best...

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Professor. Lewis,

I am a Minyan and I follow your writings closely. I end up learning something new every time.

Regarding gold, one scenario you did not seem to cover is what happens to gold if Heli-Ben, in an effort to protect his credibility, decides to raise rates at the risk of pushing the economy into a deeper recession?

Please accept my thanks in advance.

Minyan Radhe

MR,

One has to watch what the Fed is DOING, not what it is saying. The Fed has sat on its hands since last August, all the while saying how deeply concerned it was about inflation as the equal-weighted CRB (CCI) made two new all-time highs during the same period and the trade-weighted dollar made new lows on a nearly daily basis.

Meanwhile, this same Fed has gone on numerous coupon passing binges during the same period (which are permanent injections of fresh confetti into the banking system that can then be levered up 20 to 1 or more). M3, according to those that have reconstructed it, is running at around 13%. Does that sound like the actions of a Fed that is truly concerned about inflation? Where are the rate hikes? Where are the drains of liquidity from the system? You're not seeing any of that.

All we are seeing is open-mouth hawkish policy, and the reason for that is because the Fed CAN'T do anything to slow inflation. Because anything it might do to slow inflation risks sending the housing bust into a depression and taking the economy with it. We have about $300 bln in ARM resets over the next six months (which I mentioned in yesterday's buzz). Think the Fed is going to raise interest rates sharply into that a la Volcker (25 bps would be a pinprick to inflation), especially when we also have two wars to finance??? No way.

Heli-Ben is a student of the Great Depression. He knows the Fed can't do anything given the state of the residential real estate market and the amount of debt the consumer is carrying. The sad fact is that the Fed is trapped between a continued rise in inflation and the housing bust (a trap of their own making I might add), and when put to the choice, the Fed always chooses inflation, especially given who holds the majority of US debt (foreigners).

Inflation hurts the US' foreign creditors more than it does the heavily indebted US voter... errrr... I mean "consumer," who actually benefits from moderate inflation at this point.

The question is whether inflation will remain "moderate." I doubt it... All the Fed can do about inflation at this point is talk and pray that enough time goes by and the housing bust bottoms out so they can try and reign in inflation at some point in the future. By that point, it will be much harder to do though... ask Paul Volcker about that. That's the reality, but you will never hear the Fed admit to that for obvious reasons.

Then again, I'm long gold shares, so maybe I am just talking my book? But it seems pretty obvious where the US' final destination lies, and that's stagflation at best, with possibly more "flation" than "stag" if the Fed is crazy enough to point to its silly CPI and claim there's "no inflation" and then ease as the housing bust and consumer contraction likely worsens this summer...

-Lance

Position in gold shares.

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