Notes From Underground

Every day my inbox is filled with tweets and stories about which FOMC member said what. It’s been less than a year since the Fed ended quantitative easing and merely eight months since it started unwinding its balance sheet. The Powell-led Fed kept pumping liquidity into the system, even as they started raising rates, which reflects how little confidence policymakers had in their own models.

And now the media lavishes praise on Neel Kashkari, John Williams, Lael Brainard, Susan Collins, Mary Daly, Rafael Bostic and others as if they were great forecasters by continually bombarding the financial pages with the need to have a “terminal rate” somewhere around 5.5%, prompting others to race ahead with calls for 6% or, as we heard from one pundit last week, 8%.

It is time for the Fed to slow their roll and engage in humility for the true FED policy of ZERO rates is the measure of just how far off FOMC forecasts have been, dating back to Alan Greenspan. Most importantly, former Fed Chair Ben Bernanke, the progenitor of forward guidance and QE, proclaimed that the SUBPRIME CRISIS was contained just prior to it devolving into the GLOBAL FINANCIAL CRISIS. When Jerome Powell is on target it serves as a reminder to WALL STREET what a poor forecaster the central bank actually is when moving to a much more pragmatic policy.

If you didn’t watch the Powell’s discussion with David Rubenstein last week I would advise doing so as it showed the Fed chair at his best. The most critical part of the interview was when Rubenstein got Powell to walk back his disinflation view that was deemed dovish at the post-FOMC press conference the week before. Many analysts believed Powell would walk back disinflationary rhetoric following the huge jobs number on Feb. 3. Powell didn’t walk it back and seems to be leaning toward slowing the FED in an effort to assess the impact of a year’s rapid increase in interest rates coupled with an effort at quantitative tightening.

Powell has to be careful for in this AGE OF ENORMOUS DEBT there can be no inner VOLCKER. There was an article in the Wall Street Journal Friday by Andrew Duehren titled, “Fed’s Inflation Fight Pushes Up Cost of U.S. Debt.” For several months we at NOTES FROM UNDERGROUND have warned that the politics of percentages was going to come into play as the cost of financing the massive debt piled up by Trump’s ill-conceived tax cuts and Biden’s profligacy was came to be paid. Duehren wrote: “The Treasury’s spending on interest on the debt is up 41% to $198 billion in the first four months of this fiscal year with $140 billion in the same period last year.” The story went on to use the CBO projections about how much the costs of financing the massive deficit will, but the CBO projections were based on INTEREST RATES BEING 1.9% by end of 2022 and 2.6% at the end of 2023.

However, please take this story with a grain of salt because the Congressional Budget Office will release its updated outlook on Wednesday, Feb. 15, which should account for the rise in interest rates.

The key issue for the entire global financial system is how can the price of sovereign debt be able to absorb the blows from inflation at 5% with a massive increase in the cost of financing the debt as central banks seek to remain HIGHER FOR LONGER. Who is buying all the US long-term debt at 3.6%?

***It is also of paramount importance to note that the ECB, BOJ, SNB, BOE, BOC, RBA, RBNZ, as well as many emerging market central banks are striving to raise rates in an effort to keep their currency stable. The ECB will raise rates more aggressively than most as President Lagarde is under extreme pressure from the HAWKS .

Following the Feb. 2 meeting, the hawks were filling the media with calls for faster rate hikes. Lagarde has already committed to a half a percentage point increase at the March meeting in an effort to keep the hawks in place. QT is a dangerous tool for the ECB because it will certainly lead to FRAGMENTATION of the European bond markets, which more concerning for Brussels. If the ECB violates its Lisbon Treaty rules to prevent fragmentation then the anti-EU voices in Germany will be back at the German Constitutional Court creating potential problems for an already besieged Olaf Scholz.

If this is not enough to concern markets we now have rumors that Ueda Kazuo will be the new Governor of the Bank of Japan. This has not been ascertained but is on the boil and I suggest you read the insightful piece by Tobias Harris at Observing Japan on this appointment. It is important to note that Ueda is an MIT PHD in the same group as Bernanke and many other central bankers and I would further advise looking at the members of G-30 to understand why Ueda would be a comfortable fit. But if Japan begins to alter its YCC policy further bond markets will suffer further stress because of the gigantic impact of Japanese banks, pension funds and insurance companies on global financial flows.

Again, many piles of tinder set to ignite on the global financial situation.