Notes From Underground: Don’t Fear the Grim Taperer

In staying in sync with the chairwoman-to-be, Chairman Bernanke spoke at the Herb Stein Memorial Lecture and provided support for Ms. Yellen’s Senate Banking Committee testimony. It appears that the FED certainly wants to reduce the role of large-scale asset purchases (QE) by beginning to emphasize the importance of FORWARD GUIDANCE. In the beginning of the speech Bernanke stated: “Indeed, expectations matter so much that a central bank may be able to help make policy more effective by working to shape those expectations. Experience demonstrates that a useful approach to managing expectations … involves policy makers stating clear objectives as well as their plans for attaining those objectives.” The importance of forward guidance as a Fed tool resulted in the failure of the central bank to hits its previously announced time-based expectations. Each time the Fed put forth a date for possible ending the present policy, the economy failed to adhere to the Fed’s time-table.

In August 2011, the FOMC noted that economic conditions warranted an extended period of ease out to mid-2013, a date that had to be adjusted twice in 2012 as the QE programs kept falling short of boosting the economy to an acceptable growth rate. Time factors were causing the market to doubt the Fed’s credibility so a move to use “hardened thresholds” was introduced. So last December the Fed introduced the 6.5% unemployment threshold, in addition to a 2% inflation rate, with flexibility allowed on either of the data points. In setting the gaming of the Fed’s self-imposed thresholds, Bernanke noted: “However, after the unemployment threshold is crossed, many other indicators become relevant to a comprehensive judgment of the health of the labor market, INCLUDING SUCH MEASURES AS PAYROLL EMPLOYMENT, LABOR FORCE PARTICIPATION, AND THE RATES OF HIRING AND SEPARATION” (emphasis mine). There is so much room for Fed flexibility that markets need not fear the end of QE.

As the chairman cited the benefits of forward guidance, he laid out the shortcomings of the LSAP program. The purpose of LSAP was to affect investors’ expectations that the FED would keep short-term rates low and also put downward pressure on the term  premiums of long-dated securities, lowering yields and forcing investors into more risky assets (Bernanke’s beloved PORTFOLIO BALANCE CHANNEL). But as Bernanke notes (and as Governor Jeremy Stein once suggested), June 2013 showed that the predicted outcomes of a possible tapering were difficult to control and manage.

In tonight’s speech, Bernanke also said: “LSAPs have other drawbacks not associated with forward rate guidance, including the risk of impairing the functioning of securities markets and the extra complexities for the Fed of operating with A MUCH LARGER BALANCE SHEET, ALTHOUGH I SEE BOTH OF THESE ISSUES AS MANAGEABLE” (emphasis mine). In Mr. Bernanke’s response to the market’s reaction to his May 22 testimony, “…. a perceived reduction in the Fed’s commitment to meeting its objectives–contributed to the increase in yields, it was neither welcome nor warranted.” And finally: “In particular, the target for the federal funds rate is likely to remain near zero for a considerable time after the asset purchases end, perhaps well after the unemployment threshold is crossed and at least until the preponderance of the data supports the beginning of the removal of policy accommodation.”

Draw your own conclusions ,but in my humble opinion QE is giving way to the more powerful FORWARD GUIDANCE, which is more effective in the Fed’s ability to CONTROL market expectations. In an effort to further support my conjecture, I offer this from Ms. Yellen’s testimony to the Senate Banking Committee:

Yellen: The measured unemployment rate is 7.3%.

Sen. Heidi Heitkamp: I know the measured rate, that wasn’t the question. You would agree that it is at least close to or probably over 10%?

Yellen: Well, certainly by broader measures it is that high.

***Now, if the issue of tapering is coupled with the perceive power of forward guidance, as traders and investors we will try to find the most probable outcomes to invest and trade accordingly. One thing I do know: If the GOLD closes higher on the day of tapering announcement, the market will certainly confirm what the STOCKS have been saying, tapering is nothing to fear, so let’s guide ourselves forward.

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8 Responses to “Notes From Underground: Don’t Fear the Grim Taperer”

  1. Michael Weiser Says:

    Hi Yra,

    “One thing I do know: If the GOLD closes higher on the day of tapering announcement, the market will certainly confirm what the STOCKS have been saying, tapering is nothing to fear, so let’s guide ourselves forward.”

    Will that be because the behavior of gold will signal that the Fed has successfully settled the longer end of the curve? Please explain your thought.

    Michael Weiser

  2. Nate Says:

    This post has me confused. please forgive my haste as I am getting ready to head out to worK:

    1. Whenever tapering was talked about by the fed, stocks tanked, which i think means the stocks think tapering IS to fear???

    2. While forward guidance MAY be a powerful tool, the Fed’s own admission is they are going off of UNPROVEN MODELS, and the Fed’s guidance has been WRONG (and adjusted several times because they have been WRONG. I think I have been the only investor more wrong than the fed:( In a recent fed paper there was concern those models were not complete or accurate (sorry, don’t have source now).

    3. The fed’s stated numbers are whatever they say they are. The exchange stabilization fund has the legal authority and power to do OFF BALANCE SHEET transactions and I have to assume the Fed has the same capability. Who knows what is really happening?

    I am jealous of your optimism, as I am a pessimist, but i have been LIED to too many times by those we have entrusted our banking system with. If you would like to email me at I can provide most sources (mainly from the federal reserve) to back my claims. I am not a conspiracy theorist like it may sound.


  3. yra Says:

    Mike Weiser–thanks for the feedback.The markets have sold themselves that tapering will be the beginning of the end for all asset classes and will prove a drag on stocks and especially GOLD and the emerging market equities and currencies.I think forward guidance at this time is far more powerful for keeping the liquidity game going as the FED balance sheet will still remain 4 trillion + and the FED will keep rolling the assets on their book,unlike Europe where the ECB has dramatically shrunk its balance sheet.If the GOLD and I stress IF–brushes off the news of an actual tapering it will mean the more recent action in the GOLD was in anticipation of TAPERING and now it can focus on the power of forward guidance and whatever happens in Europe in 2014,which will probably mean a QE program of some sort from the ECB

  4. fer Says:

    Hi Yra. Thank you very much for your posts -I found them very interesting. Could you please ellaborate a bith futher on the last paragraph?. Thanks. Fer, Argentina.

  5. asherz Says:

    Are the various markets being played on a level playing field or are interventions almost the rule? Let us count the ways (with apologies to E.B.Browning).
    LIBOR-self evident.
    Short term rates-ZIRP.
    Long term rates-QE (sorry, LSAP).
    Asset Inflation a)stock market b)real estate c) art (Francis Bacon)
    d)etc.- ZIRP,reaching for yield.
    Currency trading (see recent investigations).
    HFT (skimming orders).
    Unemployment rates (not a market but affects markets- see recent allegations).
    Gold- I guess not because it is a useless relic so this market is freely traded. It has been in a two year bear market because tapering is lurking out there.

  6. Wednesday Nov 20th. Let the tax loss selling begin. Says:

    […] a good explanation of what the fed's doing by Ira Notes From Underground: Don’t Fear the Grim Taperer | Notes From Underground This is a no nonsense explanation of the philosophy of the fed. The murk is lifted. The […]

  7. Yra Says:

    Fer will do—markets anticipate events and if the recent sell off in Gold is based on the idea of Fed Tapering ,the actual announcement of the Fed’s strategy may be met by Gold being sold first and then bought –this is the idea of sell the rumor and buy the fact.I don’t know that this will be the outcome but as a trader it is certainly worth watching

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