Why the Fed Blew It Today

The Fed blew it today. It should have reduced short-term interest rates -- at least by 25 basis points (a quarter of a percent) to send a clear signal to the market that it knows the threat of recession is bigger than any threat from inflation.

Inflation itself is almost never a problem. The problem comes with accelerating inflation. When does inflation accelerate? Not just because oil prices or food prices rise. Those price increases are largely the result of demand outrunning supply (see below).

No, inflation accelerates when companies have to continue to raise prices because wages are rising and productivity isn't. But these days American employees have no bargaining leverage to raise wages. Only 7.8 percent of private-sector workers are unionized. Besides, unemployment is on the rise. Under these circumstances, employers won't continue to raise prices, especially now that competition for every consumer dollar is increasing. They'll only raise prices to cover the increasing costs of supplies -- mainly energy. But this won't cause inflation to accelerate. It will just result in a price increase.

The Fed blew it. Consumer confidence is plummeting. Employment is falling. 1.2 million homes are already foreclosed upon, and banks are tightening the noose around a trillion dollars of credit-card debt. The Fed could have helped a small bit by cutting rates and sending a clear signal it would continue to do so in order to avoid recession.

But it didn't. I fear we're in for a bad one.