Federal Reserve Out of Firepower

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A guest post from Frank Shump. Frank is a veteran from the financial services industry, and currently authors a blog called Thefinancecastle.com, which documents his thoughts on money matters and his adventures in self employment.

Thus far, all indications seem to lead us to believe that the Federal Reserve can solve economic problems by throwing massive amounts of money at it. From lowering interest rates from 1 percent from 4.25 percent this year, to putting billions of dollars into the commercial paper markets in order to stimulating lending, to the $700 billion financial bailout that’s constantly shifted from a package aimed squarely at aiding struggling financial institutions to helping out consumer debt firms as well. With all of this money being tossed around and historic, unprecedented actions taken place, is there anything at all left that the Federal Reserve can do to stop us from going into a recession? According to Kansas City Federal Reserve President Thomas Hoenig, no, no there is not.

“The Fed has done about as much as it can do, we might put it out there, but banks are not able to, given their own capital constraints, able to lend as aggressively.” If Hoenig is right on the mark with that statement, and the recession continues to worsen, then there isn’t much more that the Fed can do to help us out of it. If and when it comes to it, we’re just going to have to suck it up and continue to tighten the belt.

Unfortunately that certainly isn’t the answer that automakers in the U.S. want to hear. Talks between congressional Democrats and the Bush administration seemed to be bottoming out recently. Democrats in the Senate insisted that they’ll try and allocate a portion of the bailout to pay for loans to the industry, but talks have been ground out to a stalemate, and they don’t have the votes to do so without that support. Republicans, for their part, believe that the $25 billion loan should actually come from a loan program previously approved to help them develop more fuel-efficient vehicles.

That could change when Obama takes office, however. The Bush administration recently told top lawmakers that half of the $700 billion bailout fund will not go anywhere before Obama takes office. Treasury Secretary Henry Paulson will leave $350 billion left over for when Obama takes office and his administration will be able to decide how the rest of it should be spent. You can be sure that this could change the state of negotiations to have that portion of the bailout.

With the second largest economy in the world heading into an official recession as well, it’s probably best to start preparing yourself now. If things continue to get worse, there won’t be much that the Fed, or anyone, will be able to do to stop it from running it’s course.