This segment was taped at the American Stock Exchange, which offers trading across a full range of equities, options and exchange-traded funds.

Mike Norman, anchor, HardAssetsInvestor.com (Norman): Welcome everybody, to HardAssetsInvestor.com’s video series. I’m Mike Norman, founder of the Economic Contrarian Update. With me today is Barry Ritholtz, CEO of Fusion IQ and blogger extraordinaire. Barry, welcome; thanks for coming on the program—I appreciate it.

Barry Ritholtz, CEO, Fusion IQ (Ritholtz): Thanks for having me.

Norman: Barry, you and I have spoken many times in the past and you were one of the first people I spoke with to have a very, very bearish outlook, not just for the economy, but also for what was going on with the subprime market and the financial sector.

Let’s take a look at that situation right now, with everything that we have seen recently: very aggressive Fed actions … certainly many new conventions by the Fed … the stock market seems to be stabilizing. What do you make of the situation now?

Ritholtz: Well, let’s take the stock market first and then we’ll look at the broader situation. The market has more or less seemed to find some temporary floor. Some of it is a mistaken belief that the Fed has saved the day; some of it is also based on the belief that the JPMorgan and Bear Stearns deal is the sort of crisis that marks the bottom. I think it’s a short-term bottom; maybe it will run a few weeks or a few months, but we haven’t gotten to the point where the full economic slowdown and the full impact to earnings are reflected in either stock prices or analyst estimates.

Norman: Why do you say it’s a mistaken belief that the Fed has saved the day? If you look back historically, this is textbook, OK? You have a financial meltdown, you have an economic calamity, the central bank steps in, and if it steps in aggressively—historically, these have been textbook examples—you do stop and you tend to turn things around. Why are you saying this is a mistaken belief?

Ritholtz: It’s a great question. When you look at the times when the Fed steps in and saves the day, typically in a normal cyclical recessionary slowdown, they juice the economy, they stimulate things, and the cycle then swings to the upside.

Go back to January 2001: The Fed stepped in, very aggressively cut rates, taking them down to levels not seen before. And yet they were unable to save the day at that point in time. Markets dropped significantly; the S&P got cut in half; the NASDAQ was down 78%. The Fed can’t always resolve something when prices in markets just get so many standard deviations away from the norm.

The reason I think the Fed isn’t going to have an impact this time is this entire cycle that we’ve dealt with—from the lows in March 2003 or October 2002 to the recent highs in 2007—has been a very backwards cycle. It hasn’t been your normal cycle. You come out of a recession, there’s some expansion, you get some hiring, you get some wage increases, people start spending money (durable goods expand) and you get a whole virtuous cycle. That’s not what happened this time.

This present cycle, we had the Greenspan Fed take rates down to generational lows—levels not seen in half a century—and then kept it there for an unprecedented period of time: well over a year. That never happened before. That started this inflationary spiral—that and all the money the Fed was printing—that made all of the hard goods that you and I have been talking about for a good couple of years, everything from gold to base metals to what have you…

Norman: The Fed raised rates for a period of two years. We went from 2004 to 2006 when we had 17 consecutive rate increases.

Ritholtz: Quarter-point increases.

Norman: Yeah, but we went from 1% Fed Funds Rate to 5.25%. You blame the Fed for creating this commodity boom, this so-called inflationary spiral, but for part of that period, it was raising rates.

Ritholtz: Well, it was raising rates, but you look at the history of where the ten-year Treasury yield has been—we’re still at relatively low rates.

Norman: You want to do a Volker-style rate like 21%?

Ritholtz: The reason I bring that up [is that] I want to put this into context. Under normal circumstances, you come out of a recession, you get an expansion, and the hiring and the wage increases that go with that expansion is what leads to an uptake in consumer spending, and again the whole virtuous cycle. The reason I point this out is we had something very, very backwards this time. We had this huge boom in credit, a complete drop in lending standards, and a huge boom in house prices. When you bring 2 or 3 million people that really can’t afford homes into the market, you send prices through the roof. That led to a whole bunch of consumers doing a lot of mortgage equity withdrawal, pulling cash out of their houses, buying cars, taking vacations, refurbishing their homes. That was a huge portion of the GDP growth we’ve seen over the past four years. Under normal times, when consumer spending rolls over, the Fed can work to fix it. Based on the mortgage equity withdrawal more or less going away and the increase in lending standards, there’s not a whole lot the Fed can do to resurrect that.

Norman: All right, well, Barry Ritholtz still cautious. Stay tuned folks, for the second part of my interview with the blogger extraordinaire, Barry Ritholtz. I’ll be back.