An Opportunity Lost and A Question Answered

Market insights from the folks at PIMCO always have my attention, and Mohamed El-Erian's latest piece answers the question I posed about waiting to see what Greek sovereign debt might morph into, and here is what he says:

"Meanwhile, the disorderly market moves of recent days will place even greater pressure on the balance sheets of Greek banks and their counterparties in Europe and elsewhere. The already material risks of disorderly bank deposit outflows and capital flights are increasing. The bottom line is simple yet consequential: The Greek debt crisis has morphed into something that is potentially more sinister for Europe and the global economy. What started out as a public finance issue is quickly turning into a banking problem too; and what started out as a Greek issue has become a full-blown crisis for Europe."

So now that a lot of easy money has been made on Greece, market participants are positioning Spain and Portugal for the next quick strikes. However, beyond all of this lies a disturbing question. The universal, complacent consensus is that short rates can stay this low because there is no sign of inflation on the horizon. It can't possibly come back because of the high unemployment rates and slack in capacity utilization rates. Everybody agrees, with the exception of one Fed Governor who voted against maintaining short rates at these levels and the Polyannish language about sustaining these rates forever. Does this kind of unanimity and complacency remind you of anything? What about our old consensus that housing prices could only move in one direction?

I think the Fed should have taken a step to move away from its position right now, while things were not in a full blown crisis. A cynic could ask about the upcoming mid term elections. In the absence of government budget discipline anywhere in the US and the EU, it just seems like a debasement of currencies and some significant international dislocations could be coming down the pike later in 2010.