1. The Senators should be applauded for dealing with Ms. Yellen in a dignified manner and allowing substance to prevail over theatrics. The questions were about issues of importance, and as I wrote on reading the Wednesday afternoon release of her prepared testimony, heavily oriented on the issue of the Fed’s regulatory responsibility. Yellen made it clear in her response on the issue of the FED‘s policy on deflating ASSET BUBBLES that monetary policy was too blunt an instrument.
If monetary policy is too blunt, the use of regulatory tolls can be a much more precise instrument. The three main Senate powers for more stringent financial regulation battered the nominee with questions related to MACROPRUDENTIAL TOOLS AT THE FED’S disposal. Senators Brown (OH), Vitter (LA) and Warren (MA) were on the offensive in getting Vice Chairwoman Yellen to acknowledge that the Too Big To Fail (TBTF) banks were the recipients of subsidies through the way the present system of deposit insurance rewards the large banks. Ms. Yellen noted that one of the Fed’s objectives should be to level the playing field for credit unions and community banks. Why should nonsystemic, dangerous banks pay more for deposit insurance then the TBTF banks? Senator Vitter pushed Ms. Yellen about the need to increase leverage ratios for the ultra-large banks. Senator Warren expressed her desire that greater regulation should be a top priority of the FED/FOMC, going so far as to get Yellen to admit that better Fed regulation could have diminished the banking crisis.
2. Jim Sinclair needs to invite Janet Yellen to one of his town hall meetings for the Fed chairman to be needs a tutorial on the importance of gold as a measure of central bank policies. When Yellen was asked about her view on GOLD, she responded that she is not sure of its role because she hasn’t seen a “GOOD MODEL” for determining what it means as an indicator. Bernanke and Yellen have each weighed in on the issue of GOLD and neither has voiced the answer that represents the wisdom of Chairman Paul Volcker: GOLD IS MY ENEMY. If every central banker were to advance similar wisdom the global financial markets would be on a much sounder basis. The Chinese seem to be advancing a similar opinion as the balance sheet of its central bank continues to increase its gold holdings. Yes, gold has had a bad year as an investment but its role of a store of value during the last 13 years is unquestioned. An asset class that reflects the psychology of global investors needs to be understood by the world’s central bankers. Failure to understand gold because of flaws in your models calls into question the reliance on theoretical models versus practical actions. Or, as the street slang goes, “money talks, models walk.”
3. Some Senators attempted to pin down Ms. Yellen on the timing of the anticipated tapering. The Vice Chairwoman of the Fed proved too battle hardened and politically astute to fall for that nonsense, but the feeling she left is that tapering will be done with a lowering of the FED‘s target for unemployment. Ms. Yellen was and is very concerned about the damage of long-term unemployment on society. More importantly, in response to a question from Senator Heitkamp (ND), Yellen accepted that the broader measures of unemployment probably remain more than 10%. This leads me to believe that if the FED ends QE it will be done with forward guidance to direct the financial markets to accept that the Fed will keep interest rates low until a much lower threshold of unemployment is reached (in which 5.5% will probably the new level). It seems that the FED will be worried about tapering and new bank regulations posing strong headwinds for the economy and will ensure the markets that overnight rates will not be rising for quite an “extended period.”
***It appears that 2014 is going to be the year of decision in Europe. Remember to order your copy of the “Rotten Heart Of Europe” so that you have a scorecard of the major players in the key decision-making positions. Reuters had a story on Thursday titled, “Bundesbank Warns Against Risks From Low Interest Rates.” The article quotes Bundesbank board members Lautenschlaeger and Dombret warning that the debt crisis is not over and that “the experience of other countries has shown that a prolonged period of low interest rates can result in price bubbles.” The Bundesbank board members acknowledged that if financial stability is in question the bank will act. This is important because it deflates the influence of all those entities admonishing Germany for being the instigator of the European financial crisis. The Bundesbank has the authority and ability to limit any stimulative policies undertaken by the ECB and Brussels policy makers. It seems that President Weidmann of the Bundesbank can utilize regulatory tools to limit the stimulus of Mario Draghi. The resolution of the European debt crisis is not going to be as easy as the correlationists wish to believe.
***Last week the McKinsey Group issued a study which concluded that the FED‘s QE program was not responsible for boosting stock prices. McKinsey’s results were based on the historic levels of price/earnings ratio and price/book valuations. Barron’s magazine has a splendid rebut to the study by Randall Forsyth, which is a must read, but I am going to post a chart that overlays the S&Ps with the Fed’s balance sheet. The S&Ps’ pricing must be a mere coincidence when measured with the Fed’s purchases. If McKinsey is correct, then the FED should end the entire QE program tomorrow and all the worries of emerging markets and Wall Street investors have been for naught. Irrational investors in the world of efficient market theory.