Wednesday, October 30, 2019

The Greenspan rate cuts

The Federal Reserve will likely cut interest rates when it announces its latest monetary policy decision later this afternoon. It will be the Fed's third cut this year and its third cut in as many meetings.

In his preview of Wednesday's events, Yahoo Finance's Fed correspondent Brian Cheung broke down how some Wall Street economists have harkened back to the mid-90s rate cutting cycle as a guide for the Powell Fed.

As Brian notes, "Several Fed speakers, including St. Louis Fed President Jim Bullard and Vice Chairman Richard Clarida, have pointed to the ‘insurance’ cuts of 1995-1996 as a model for what the Fed is doing now.”

Those cuts took place in the middle of an economic expansion that lasted another four years. In that cutting cycle, the Fed lowered rates three times. And in that cutting cycle the Fed was un-doing what the bond market had deemed a mistake with the prior year's tightening cycle. The similarities are obvious.

What's also clear is that Fed Chair Jerome Powell is thinking about economic cycles in much the same way Alan Greenspan did nearly a quarter century ago. In January 1996, Greenspan asked before a meeting of the FOMC — "why do business cycle expansions come to an end?"

"A goodly part of the weakness that we have been seeing probably reflects the fact that there is an ultimate life expectancy to a business cycle in much the same sense that it probably exists in human beings," Greenspan added.

The economy, in this view, can be aided for some time. But eventually its energy is exhausted. The economy's heart stops beating. For both men, it seems that cycles have natural lengths, though the Federal Reserve can perhaps intervene to extend these useful lives.

And it appears that Powell is grappling with Greenspan's "life cycle" conception of economic expansions as part of the inspiration for why the Fed must act now.

In October 2018, Powell told PBS that he believed the economic expansion could continue "effectively indefinitely." In his October 2018 view of the world, additional rate increases were seen as the most likely prescription for Powell to continue this expansion.

Just a few months later, rate cuts from the Fed came into focus. But the view that we could enjoy a potentially "indefinite" economic expansion has very much informed Powell's efforts to make the case for rate cuts in recent months.

In June, Powell said the Fed would, "use our tools as appropriate to sustain the expansion."

In July, Powell told reporters that the Fed's easing bias "supports confidence, it supports economic activity."