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StratInfo - Strategic Information Analysis Inc. In a surprise move, on January 3, the Fed lowered the Fed Funds rate by 50 basis points and the discount rate by 25 basis points. Then on the following day, January 4, in a theatrical move, it lowered the discount rate another 25 basis points. This sudden and unusually dramatic act by the Fed would indicate an economy that is in a free-fall collapse, which it is not. The Fed’s reasons for the abrupt action were: (i) further weakening of sales and production; (ii) lower consumer confidence; (iii) tight conditions in some segments of financial markets; and (iv) high energy prices.
We think the Fed’s response was influenced by recent market criticism, and by a dose of messy economic reality. They may have also panicked, after review of recent economic data. Since monetary policy actions affect the real economy only after a lengthy lag, we suspect the Fed’s January 3d bravado was also aimed at market sentiment, a very risky move. The Fed's references to weak sales, lower consumer confidence, and financial markets problems, such as equities, point to concerns over market psychology. Not surprisingly, the immediate market response to the Fed’s action was a textbook Pavlov’s dog reaction: the markets went into an "irrational exuberance" delirium, only to crash back to reality the next day. We think the Fed may have over-reacted by cutting rates in a dramatic fashion, specially in view of the still mixed economic data, particularly a stubborn inflation rate, which is currently at around 3.3 percent (we do not use the core rate of inflation, since it is a misleading indicator, instead we use a moving average of the CPI). We now think the Fed will pass on a rate cut at the January 30 FOMC meeting.
After ten years of uninterrupted growth led by American business ingenuity, and supported by cheerful consumers, we have reached the turning point in the cycle. Mr. Greenspan and his colleagues on the Board face a difficult economic environment: slower growth, high consumer debt, a weaker dollar, and a stubbornly high inflation rate. Every move the Fed now makes will have mixed results, since the target variables of growth, inflation, the dollar, and systemic risk are moving in different directions.
The revised 3d quarter GDP was 2.2 percent. We think the fourth quarter will be about 0.6 percent; and then pick up in the first quarter of this year. Analysts are expecting 2.6 percent growth for this year. For the first year of a new government with a wobbling economy, that is a very optimistic outlook.
Latin American EconomiesThe dollar will be under downward pressures as the Euro comes out of its slump. As we have predicted in the past, the current account deficit has reached worrisome proportions, about 4.7 percent of GDP for the year 2000. This will create more problems for the dollar and for the Fed as Guardian of the Currency. Of course, a substantial slowdown of the U.S. economy would help reduce the trade deficit.
The so called "safety net" financing package for Argentina of about US$39.0 billion was recently approved by mostly multilateral lenders. Argentina will receive US$14.0 billion this year from the IMF, of which US$3.0 will be disbursed immediately. We think that a more appropriate name for this new money should be "financial rescue" package. In the absence of a devaluation, it will take a large dose of foreign financing to jump start the sagging economy. This further heightens the country's debt burden and thus, the risk of debt service problems.
Bolivia expects to sell US$150 million worth of natural gas to Brazil this year, followed by US$250 million in 2002, US$350 in 2003 and US$500 in 2004. Brazil and Mexico successfully issued bonds for US$1.5 billion and US$2.4 billion respectively, taking advantage of favorable economic conditions in both countries and an attractive interest rate differential with respect to the U.S. Brazil will probably float additional issues to cover its financial needs prior to the 2002 presidential elections.In Chile, recent estimates point toward a current account deficit close to 1.0 percent of GDP and economic growth between 5.0 - 6.0 percent.
The Colombian government granted a buffer zone to the ELN guerrillas, as an enticement to start peace negotiations. However, the granting of a buffer zone to the FARC, almost two years ago, has failed to advance the peace process in Colombia.
Costa Rica is the leading Central American exporter, despite a moderate slowdown in export growth this year.
Toward the end of last year, Dominican Republic’s Congress approved a tax reform, a tariff reform and the new 2001 budget. The new laws increase taxes to make up for the loss of government revenues, due to tariff reductions.
Street protests in Ecuador against dollarization, and we expect more of the same.
An earthquake wrought devastation in the capital city of San Salvador in El Salvador. The death toll appears much higher than initial estimates. Economic damages have yet to be determined.
Although the Guatemalan economy grew at a decent rate last year, a steep fall in construction activity had a negative impact on employment and consumer spending.
Honduras emerged out of recession last year and is planning to further develop its mining sector with the goal of substantially increasing exports of gold, silver, copper, zinc and lead, starting this year.The presidential elections slated for November 2001, are taking center stage in Nicaragua. The governing Partido Liberal Constitucionalista (PLC) recently selected former vice-president, Enrique Bolaņos, as its presidential candidate. The Sandinistas will hold a primary election on January 21 to elect its candidate. The hopefuls are Daniel Ortega, the former vice-minister of Foreign Relations, Victor Hugo Tinoco and the former minister of Planning, Alejandro Martinez Cuenca.
Panama expects to stimulate economic growth in 2001 with infrastructure projects, especially in the Canal Zone.In Peru the presidential candidates are gearing up for a short campaign leading to the April elections. The main candidates are : the former presidential candidate Alejandro Toledo who leads the opinion surveys, Lourdes Flores, Luis Castaņeda, and the former minister of Economy, Carlos Boloņa.