Economic Condition Review 4Q 2010

As 2010 ended, the wait began for Q4 corporate earnings reporting season. Expected are confirmation of the health of the US consumer and corporate guidance leading to confirmation of an economic recovery that is sustainable. Commercial balance sheets are doing everything possible to restore financial health, including cutting expenses by laying off workers and paying off debt. Banks, the primary source of credit for econimci expansion, both consumer and commercial borrowers, are lending only to prime customers, letting growth of credit remain below trend. Most businesses do not have pricing power, so prices are holding the line so far despite rising commodity prices. Exceptions are businesses with pricing power such as health care, food and energy. Inflation (see Q4 CPI) for gasoline in 2010 came in at 13.8%, the overall energy component at 7.7%, and in the major grocery store food groups, the index for meats, poultry, fish and eggs posted the largest increase at 5.5 percent.

During Q4 2010 the Fed implemented the follow-on to quantitative easing we call QE2. This liquidity program is ultimately responsible for accomplishing one of what has become three objectives (maintain price stability, maintain full employment, and now support reflation of US stock market indexes). Obviously the one objective the Fed is succeeding at is reflation of the stock markets. So far, the Fed is not being successful at their two primary objectives. Now a big question is how can US stocks maintain their advance without the rest of the world's participation. Hello Ben. An answer please.

Market Data: Week Ending January 14, 2011

Market Index	12/31  Close	1/14    Close	Week Change	Simple YTD %
Dow Industrials Avg	11,577.50	11,787.40	0.96%	1.81%
S&P 500	1,257.64	1,293.24	1.71%	2.75%
Fed Funds Rate	0.10%	0.18%	-0.01%	44.44%
10 yr T-note Yld	3.29%	3.32%	-0.04%	0.90%
5 yr T-note Yld	2.01%	1.92%	-0.04%	-4.69%
5 yr TIPS - 'Real' Yld	-0.06%	-0.27%	-0.04%	77.78%
Implied 5 yr Inflation %	2.07%	2.19%	0.00%	5.48%
2 yr T-note Yld	0.59%	0.57%	-0.03%	-3.51%
2-10 Yr Slope	2.70%	2.75%	-0.01%	1.82%
90 day T-bill Yld	0.12%	0.15%	0.02%	20.00%
Gold ($/oz)	$1,421.40	$1,360.50	-$13.70	-4.48%
WTI Oil ($/brl)	$91.38	$91.54	$1.99	0.17%
VIX "Worry Index"	17.75	15.46	-1.68	-14.81%
Credit Spreads	12/31  Close	1/14    Close	Week Change	Simple YTD %
Inv Grade Credit Idx	4.78%	4.66%	-0.04%	-2.58%
Low Grade Credit Idx	8.32%	7.91%	-0.09%	-5.18%
Markit CDX Inv Grd Idx	85	85	-2.30%	0.00%
Markit CDX Mid Grd Idx	131	127	0.00%	-3.15%

December & Yr 2010 Consumer Price Index Summary

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.5 percent in December on a
seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months,
the all items index increased 1.5 percent before seasonal adjustment.

The energy index increased in December. The gasoline index rose sharply and accounted for about 80
percent of the all items seasonally adjusted increase. The household energy index, which declined in
November, increased as well. The food index increased slightly in December, with the fruits and
vegetables index rising notably.

The index for all items less food and energy also rose in December. An increase in the shelter index
accounted for about 60 percent of the rise, and the indexes for airline fares, medical care and apparel
rose as well. These increases more than offset declines in the indexes for communication, recreation, and
household furnishings and operations.

Year in Review
The rate of increase in the CPI slowed in 2010 as the December to December increase fell from 2.7
percent in 2009 to 1.5 percent in 2010. A deceleration in the gasoline index accounted for much of the
slowdown, as it increased 13.8 percent in 2010 after rising 53.5 percent in 2009. The index for
household energy, which declined in 2009, rose 0.8 percent in 2010 as increases in the indexes for fuel
oil and electricity more than offset a decline in the natural gas index. The energy index as a whole,
which rose 18.2 percent in 2009, increased 7.7 percent in 2010.

Ten Year Note: Somebody's Buying

 This info is reported by Econoday on Bloomberg:

Bid/Cover	3.30
Coupon Rate	2.625%
Total Amount	$21 B
Yield Awarded	3.388%

Highlights
New Year investment inflows are flowing into Treasury auctions this week especially today's 10-year auction (a reopening of the 2.625 percent November issue). Retail demand appears to be especially strong as dealers ended up taking only 39 percent of the auction vs a 46 percent average. (Scanner: emphasis added) Coverage of 3.30 is well above average. Topping it off, the auction stopped out at 3.388 percent, two basis points below the 1:00 bid. Money is moving into the Treasury market following the results.

Scanner: The chart below shows that the Total Amount for 2009 is identical to the amount of the auction in January 2011. The amount with the annual reports is the average for monthly auctions in the year. The 2010 monthly reports are showing the monthly auction amounts.

Federal Reserve Open Market Committee (FOMC) for 2011

Each January there is turnover of at least four of the eleven seats on the Federal Reserve Open Market Committee (FOMC). The Board of Governors of the Federal Reserve System is responsible for the discount rate and reserve requirements, and the Federal Open Market Committee is responsible for open market operations. Here is a link to a previous post with some additional background on the FOMC and the nine 2010 members.

The new members for 2011 will be presidents from four of the 12 Regional Bank Branches. The four Branches are in Chicago, Philadelphia, Dallas and Minneapolis. In addition, Janet Yellen, President of the San Francisco Branch, and Sarah Bloom Raskin, formerly the Commissioner of Financial Regulation for the State of Maryland, (the state ranks #12 as of 12/31/2010 on the unofficial problem bank list) were each appointed Governor's on The Fed Board last October, making them long-term members. In Yellen's appointment her vote is retained past 2010 because her Branch moves to the non-voting alternate member list for the 2011 term. Non-voting Reserve Bank presidents attend the meetings of the Committee, participate in the discussions, and contribute to the Committee's assessment of the economy and policy options.

Below is a look at representative quotes from speeches made recently by each ot the new members. Bloom Raskin has given only one speech as a board member. These might provide helpful background when the time comes to speculate about whether the program of quantittative easing gets extended. The current program is scheduled to stop by the end of June 2011.

The speech by Kocherlakota is given to an audience of college students and so he talked in terms that more people can understand. Many of the other speeches are weighted with econo jargon. Never-the-less, a quick browse will be enlightening for understanding more about the Fed's practices and plans for managing through the policy challenges that the economies of the world are faced with.