In reading through the FOMC minutes I ponder the headlines that screamed about the hawkish tone in the minds of the FOMC members. You have to be looking for “negative waves” to find an overly cautious FED. The most striking effort of ending the LSAP (large-scale asset purchase) program is the work of Governor Jeremy Stein who delivered a powerful speech last week about the mal-effects that the FED‘s QE program was having on other financial markets (especially the corporate debt markets where the search for yield was causing the possible removal of risk pricing into the high yield corporate bonds.) The minutes noted: “Several participants discussed the possible complications that additional purchases could cause for the eventual withdrawal of policy accommodation, a few mentioned the prospect of inflationary risks, and some noted that further asset purchases could foster market behavior that could undermine financial stability.” Again, no surprise here as it was detailed out in Jeremy Stein’s speech.
The FOMC did note what I reported earlier in the week, which was a concern of St. Louis President James Bullard:
- The Fed’s continued asset purchases could expose the Fed to significant capital losses with a very large portfolio of long-duration assets
- More purchases could have a detrimental impact on the effective pricing of risk on all financial markets
- Others worried about the FED ending its program prematurely and a FEW participants noted examples of past instances in which policymakers had “prematurely removed accommodation with adverse effects on economic growth and price stability.”
The most bothersome mood in the MINUTES was the complacency because the markets have maintained their composure, bond rates remained subdued and volatility low. The FED‘s LSAP was not seen as a problem … yet. The overall mood was set by the staff’s report, which stated: “On net, global equity prices rose and euro-area spreads narrowed. As global risk sentiment improved, the DOLLAR depreciated against the euro and most emerging market currencies.”
This is really troubling for it seems that the most significant participant in the global growth game is watching the same variables as the market participants and judging the success of its actions by what the traders and investors do–the true response to the PORTFOLIO BALANCE CHANNEL. Bernanke and company are satisfied with the success of the market reaction function. Wow, economic policy made through market tautology. The Fed giveth and the market reacteth in the desired fashion and it just keeps repeating itself.
***My friend JA raised an issue that all traders will certainly understand and needs to be placed before all market participants. As traders, we have to wonder what happens when the FED‘s trading desk makes it first call for prices to exit the market.
NY FED: Hello, JPMORGAN, this is SOMA (security open market account) from the Federal Reserve. Can we please have a bid for $25 Billion MBS.
JPM: Can you hold for just a moment? Looking for a market price for you.
(The trader mutes the phone and yells to all traders on the desk: “SELL EVERYTHING!”)
Experienced traders know what happens one a large position begins to exit the market. Remember back to the time when Alan Greenspan was worried about the outcome of the liquidation of Long Term Capital Management. The NY BANKING community basically had to be sequestered in a room and told not to race ahead of the liquidation of LTCM‘s positions causing even larger disruption to the markets. Foreign currency are very well aware of the power of just the rumor of a central bank intervening in the markets. I know the FED‘s rocket scientists are all aware of the theoretical value of its enormous portfolio, but theoretical pricing models are rendered useless in the reality of actual market practice. Yes, members of the FOMC will shout–it hasn’t happened YET–but a BOND market that has suffered under the harsh financial repression of the FED‘s PORTFOLIO BALANCE CHANNEL will seek its revenge. So premature extraculation may result in some unsatisfied theoreticians.
Tags: Dollar, Fed, FOMC, Jeremy Stein, LSAP, portfolio balance channel, QE
February 20, 2013 at 9:02 pm |
shouldn’t be long before the next metals diatribe!
February 20, 2013 at 10:01 pm |
Chuck–whose metals diatribe????
February 20, 2013 at 10:11 pm |
your buddy from NY
February 20, 2013 at 10:38 pm |
Yra,
Again, you have made obvious what readers of this fine forum have known all along; the Fed is always late, and usually clueless in its major policy actions. Too bad none of the propeller heads read this. You’ve done a wonderful job educating your readers of the folly of Fed technocrats and the hubris of academic “models”, and tonight’s piece is just the latest installment. Bravo!
Going on near four years ago, I took two 100 Trillion Dollar Zimbabwe banknotes and put them in a frame above my desk. The mounting (background) for them is a Wall Street Journal piece titled, “Bernanke’s Exit Dilemma” from the August 8, 2009 paper. (You’ve seen this in my office, and anyone can read it at http://online.wsj.com/article/SB10001424052970203517304574306401079643202.html). To believe that a $2+ Trillion portfolio of Notes, Bonds and MBS will be worth anything near face value when the call goes out for bids really is belief in the Tooth Fairy. Premature extraculation indeed. I may add, “If you experience an erection that lasts longer than four hours, call your doctor immediately.” (Or call a porn director instead, for the freak show is just starting!)
Kevin
February 20, 2013 at 11:01 pm |
“You have to be looking for “negative waves” to find an overly cautious FED. ” Who fills the role of “Crap Game” on the FOMC?
February 21, 2013 at 12:39 am |
I told ya consumers can live with little or no growth, banks can’t. Now banks’ problems are going to be the consumers’ again but not by choice as the US Treasury and Wall Street can only wait to follow consumer trends ex. RE prodding not helping unless computer alog can rent and buy, traders absent, lifestyle changes to cover for Health Care costs/taxes, etc. Banks, no matter what they claim, live at the behest of Congress (maybe add a pinch of military backing).
The US Treasury could be busy printing new US dollars to pay banks back for their time and trouble albeit at a reduced rate, overseas debt buyers like China might receive more favorable terms or wheat but when push comes to shove banks could be allowed to fold in one fell swoop and only ex-bankers and retiring government past-bankers that infiltrate the existing system to a saturation point would all drop dead from heart-attacks. No big loss there.
Alas, I get ahead of the curve. It will all play out in time. Has to.
Like when the regular markets sell off and park in the US$. When some other form of parking takes place then troubles really begin.
Won’t happen tomorrow though so, slept well tonight.
February 21, 2013 at 1:23 am |
Yra,
Dunno if this is relevant, but cannot help tying this indirectly to the Buffet & Co. exaggerated debt deal. Will all of this be resolved via our Fed perhaps turning the USD into a souped up version of the Italian Lira circa the 1970s–1980s? I think it went as high as 3300 to ONE USD. I am not–god help us–imagining anything of that altitude, but could/would the market sustain say, for argument’s sake, a 50/1 weekend (to stay with the metaphor) dejaculation?
February 21, 2013 at 1:29 am |
…or are these FOMC minutes a phony feint to bring some caution to the nascent frothiness in the markets? Maybe BB has just put on a hawk’s mask on his dovish visage. With his view (correctly) that the economy is quite fragile, he is been walking on eggs, all the while protecting them from the real hawks circling above the nest. Lowering an $85B monthly program to let’s say $45B is not prematurely terminating this pre-coitis romance with his liquidity driven strategy.
February 21, 2013 at 10:05 am |
Inflation would really have to pick up for the Fed to consider selling any of its holdings and taking those losses.
If inflation never gets out of control, the Fed can just hold its portfolio until maturity.
February 21, 2013 at 12:16 pm |
Yes Alex they can hold the profolio to maturity but if inflation rises and the amount they have to pay on excess reserves will grow enormously which was the issue I wrote about as St.Louis Fed Bullard brought it to the fore—-if inflation went to 5% and overnight rates went to 6% the cost of paying interest on overnight reserves will be disasterous—the fed has trapped itself.From another perspective when the FED goes from gains to losses and has no money to turn over to the Treasury the debt levels are going to move dramatically higher–if inflation doesn’t go higher it may mean that the economy is stagnating and that poses a different problem for the FEd and the government
March 2, 2013 at 9:09 am |
They don’t have to cover the phone anymore. They can instant message their algorithms.