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Fed's Great Rate Debate is Raising a lot of Interest

Wednesday, 06 Apr 2011 08:32 AM

By Ashish Advani

I love it when I see Fed officials bicker. And when it comes to the most important and relevant question in the modern day history of fiscal prudence, I anxiously await their replies.

I am talking about the (now public) argument that is happening at the Federal Reserve Bank about interest rates in the United States. In the minutes of the last meeting, we can now see the clear debate that is raging internally about what should be the fate of interest rates in the United States.

As we all know, the federal-funds rate has been near 0 percent since December 2008. Many argue (and yours truly is one of them) that this rate has been left too low for far too long. Last time the Fed did this, we had the real-estate bubble. And the last time before that, we had the Nasdaq bubble. And the last time before that …. you get the picture here.

This time, I am seeing the formations of a bubble in the commodity sector. We have seen commodity prices soaring for the past many years. While half of it may be justified due to the explosive growth in Asia, the other half is fueled by low interest rates in the U.S.

Due to the cheap money availability, speculators (read big banks) borrow at near zero rates and bet big on such speculative assets. If we win, we will pay ourselves ungodly bonuses. And if the bet goes wrong, don’t worry; Uncle Fed will bail us out as we are TBTF (Too Big to Fail). What a sweet setup for the big banks.

Anyway, the current argument at the Fed is about the rising inflation that is creeping into our daily lives. Officially, the Fed wraps a blindfold around its eyes by watching the core inflation rate only. The core inflation rates ignore energy, healthcare, food, etc. But the headline inflation rate is soaring and that is the real rate to benchmark.

Some of the Fed members are beginning to get really concerned and want the Fed to start raising rates soon. While this is long overdue in my opinion, there are several high-ranking Fed members who want nothing to do with raising rates. They are afraid that it will destroy the recovery process. They want to continue to feed the “low interest rate” drug to the market that is now addicted to this stimulus to survive. What a shame.

What brightens my day is seeing some intestinal fortitude on behalf of some of the Fed members who aren’t bowing to the chairman’s wishes and wanting to do the right thing. There is still some hope left in our Fed board.

I certainly hope that our Fed isn’t the last of the G-7 central banks to raise rates. We will see this Thursday if the ECB (European Central Bank) will raise rates or not, as ECB officials had promised last month.

Since their promise, we have had the Japan earthquake, which could throw a crimper in their timing. But I am banking on them doing the right thing and raising rates to stop inflation in Europe.

Believe it or not, raising rates in the U.S. will not only be a non-event as far as business growth in the U.S. is concerned, but it also will be tremendously beneficial to the businesses around the world.

The U.S. dollar will gain back some of its credibility. The fact that the Fed will raise rates will take the pressure off the rest of the Asian central banks who are being forced to do so to withdraw excess cash that is being generated in the U.S. but flowing to overseas markets as speculative money.

Many unreasonable and unintended consequence of the last slowdown will start to normalize as soon as the Fed will indicate the intent of raising rates. And that will be a welcome relief to all of us investors, both locally and internationally.

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