[palmer]

Thanks for the compliments and your assumptions about me are correct. The one point of yours I agree on is the pain of undoing the credit bubble. I am fully aware of that and the fact that we have undone perhaps 1T out of 47T with significant pain is not lost on me. I am not accusing Greenspan of villainy nor criticizing your choice of careers. I think Greenspan was very foolish and arrogant, but not malicious. The Fed (and Bernanke) are good people trying to do the best they can for a difficult situation. They are looking for the most cost effective solution for buying bad debt (30B is a good deal for the amount BSC had), but they are also kicking the can by trying to roll the debt with lower rates. That is their flaw.

The problem of growing the credit bubble to solve a credit contraction does not solve anything. Your solution for the asset bubble which is created from the credit bubble does not solve any problem, it will merely result in shifting the bubble into a wide range of assets. Asset bubbles as we would both agree are very psychological and there is no doubt that the housing bubble had that element in Phoenix, Miami, Las Vegas. People in those places argued that their location was different, everyone wanted to move there, or ocean front was limited, or there was a huge population growth for some other reason.

The problem with pinning all the blame on the psychology is that it largely doesn't happen without credit. It's basically an easy come easy go situation. It is too easy to get leverage and flip. Your solution would presumably dampen the bubble in particular places, but would not slow it overall. The same availability or glut of credit will have the same effect, just more spread out.

On two other points, the carry trade is the market response to artificially low short term rates. It borrows short and lends long which means there is a problem somewhere (either short rates are too low or long rates anticipating inflation are too high). On the nonfinancial world, my friends in the housing business would like to start new businesses but cannot get a loan of any sort to do so. It doesn't matter what the Fed sets rates to, it won't help them at all. The problem is essentially that I am unwilling to loan them my money for the long run while they get going because I know the Fed is inflating right now, so I speculate in short assets instead. I don't like to do that, but the Fed has given me no choice.

[tcostell]

You’re still talking about a monetary policy issue, while I’m talking about a markets issue. It’s apples and oranges. We cannot address the long term problem that you have identified while the short term problem that I’ve identified continues to make the long term problem worse. But if we were to implement my solution we would prevent the next “emergency” where the Fed would be forced to forget it’s long term goals... again. It would then free them up to address the long term monetary policty issue.