Robert Shiller and the Fed's 'Credibility Trap'

On perusing US Dollar, FOMC, and the Japan Crisis: The Dog That Didn’t Bark at Jesse’s Cafe earlier today, there were two items of interest that seemed worth sharing here, the first being more ominous warnings from Yale economist Robert Shiller, he being one of those rare dismal thinkers who can actually spot asset bubbles in real time.

Shiller recently noted, “the housing bubble was the largest asset bubble in US economic history, since at least 1895″ which is as far back as his records could go and, anyone wanting more details on this subject might want to have a look at this YouTube video of Shiller where talks about some of the housing data he’s collected.

In a Bloomberg interview, Shiller warned about winding down Fannie Mae (FNMA.OB) and Freddie Mac (FMCC.OB) since, basically, they are the mortgage market today as commercial banks are still in something of a mortgage funk, only moderately interested in originating mortgages to earn a fee but showing little desire to carry them on their books.

In a CNBC interview on Monday, Shiller suggested that the Japan quake and tsunami could have a huge negative impact on the current stock market rally, one that he’s long thought was not squarely based on fundamentals. He pointed to a big plunge in the Japanese stock market one full week after the Kobe earthquake in 1995, suggesting that an event such as this takes some time to register with investors and traders and that we could see a similar development later this week.

As for the other item in the title above – the Fed’s “Credibility Trap” – that’s a phrase that I just read for the first time this morning (though others seem to be talking about it too these days), an idea that is particularly relevant after yesterday’s soothing words from the central bank that “subdued inflation trends and stable inflation expectations are likely to warrant exceptionally low levels for the federal funds rate for an extended period”.

After this morning’s surge in producer prices – up at an annual rate of 10 percent over the last six months – and what could be a surprising report on consumer prices tomorrow, that would be an interesting phrase to watch on Google Trends. The phrase liquidity trap sprang to life there just a couple of years ago, but, so far “credibility trap” doesn’t register.

Tim Iacono

Iacono Research.com