The markets were less volatile Monday than we have seen in quite awhile. We think this is positive since the markets have been inundated with significant events from a discount rate rise, IMF GOLD sales and, of course, the European debt problems. The most interesting movement today was that the 2/10 U.S. yield curve steepened after flattening a bit on Friday. The DOLLAR was fairly steady and GOLD was lower, but the equities liked the renewed steepening and the lack of any new development out of the Greek crisis.
Late in the day, Janet Yellen delivered a concise and cogent speech at the University of San Diego. Yellen made it clear that the FED’s chief weapon going forward will be the ability to pay interest on reserves. She unequivocably stated that the interest on reserves will be the tool to achieve the removal of liquidity. The FED FUNDS will move in response to the targeting of interest on reserves. Yellen said nothing about reverse repos and the selling of MBS assets, which will depend on the pace of recovery of the jobs market. It seems crystal clear that Yellen is an advocate of output gaps and she would certainly advocate that the FED move slowly in removing the huge stimulus until unemployment and the negative output gap genuinely recede. In a question and answer session with the press after, she stressed that the FED will end their asset buying as of March 31, but if new stresses appeared the FED would not hesitate to keep their options open. This caught our attention for we have repeatedly stated that it would be the reinstitution of QUANTITATIVE EASING that would give a lift to real fear in the financial markets. The FED will not allow deflation to set in (our words and thoughts).
In addition, Yellen said that she did not expect a “V” recovery. She believes that consumers are going through a balance sheet reduction which will continue to hold back household demand. The biggest threat still comes from the very fragile state of the commercial market. Why is it that its the women in finance who provide the most clear and concise analysis? Yellen, Meredith Whitney, Elizabeth Warren, Brooksley Born, Caroline Baum. The list goes on.