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Did We Forget What Happens to Goldilocks?


After booming economic growth in the late 1990’s, followed by a recession and recovery, there is lots of talk in the investor community of what we call a “Goldilocks Economy” – not too hot, not to cold, but just right. But before the economy gets lulled asleep, we should consider what happens at the end of the story.

Economic indicators are all over the map these days. The American automotive industry is teetering on disaster, the housing boom is going bust and the value of the U.S. dollar is slipping daily towards multi-year lows. On the bright side, exports of American goods are rising, unemployment is low and wages are going up faster than inflation for the first time in years.

Depending on what data you look at, the American economy is either booming or busting – which allows some pundits to declare Goldilocks to be a real person. The biggest proponent of the Goldilocks Economy is CNBC’s Larry Kudlow, who interprets all news – be it good, bad or indifferent – to fit the “just right” Goldilocks theory.

Meanwhile it seems that the Federal Reserve is either napping or has no idea what to do about the economy.

Once again, the Fed left interest rates unchanged. In fact, the only change they made in their policy statement was to add the word “substantial” to its description of the declining housing market.

I’m hopeful that the Federal Reserve is keeping interest steady not because they think things are just fine – but because they aren’t quite sure what to do.

Automotive and housing sectors – which are facing the greatest downward pressures – are among the most sensitive sectors when it comes to consumer interest rates. If the Federal Reserve wanted to prop these industries up, a rate cut would be in order.

But the dollar is sliding precipitously against the Pound Sterling and the Euro. The European Central Bank just raised interest rates, so in order to keep parity, let alone strengthen the dollar’s position, the Fed would want to raise interest rates.

On the flip side, Wall Street has already accounted for future rate cuts in stock and bond prices. If the Fed does not deliver, it could eventually send markets into a dailspin.

At the same time, upward wage pressures – due to a tight labor force and even tighter immigration policies – will eventually fuel price hikes. The only way to curb inflation would be to raise interest rates.

They’d never say it, but I would sympathize with anyone at the Federal Reserve who said that they don’t know quite what to do with this economy. But if they ever get lulled to sleep by the scenario of a Goldilocks Economy, we should remind them of what happens at the end of the story – the bears come home.

Share  Posted by Scott Olin Schmidt at 1:30 PM | Permalink

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