Notes From Underground: If Everybody Is Talking Who Is Listening

Presented with comment:


The First Economist

Yesterday, the airwaves were filled with global financial speakers singing from the hymnal of disinflation. His eminence, MR. 250 GRAND, was wowing the private speakers circuit with his opinion on stock market valuations and economic growth. Mr. Bernanke, please do not follow in the footsteps of Sir Alan Greenspan, who in his post-chairman life proved that he had very little understanding of the economy he was trying control. Only in the world of access journalism do the anointed powers pretend to be all-knowing oracles. As Bernanke hits the lecture circuit and speaks freely without the Fed backdrop it puts the current Fed Chair Janet Yellen into a very difficult position.T he media is in search of a story and a hero to worship, which propagates the idea of Fed decisions being based on rocket science with Fed policy a certainty. Again, theory and practice (praxis) do not produce hard facts in the world economics. In further support of the Fed’s “uncertainty principle,” yesterday the Wall Street Journal ran a Jon Hilsenrath interview with Boston Fed President Eric Rosengren. The interview is based on the operational techniques the Fed plans to utilize to “Raise Short-Term Interest Rates.”

As I have written about for the last year, a key weapon in the Fed’s arsenal is its REVERSE REPO FACILITY (RRP). In this, the Fed sucks up liquidity by swapping its Treasuries with a counterparty who gives the Fed cash, absorbing excess liquidity in the short-term market. The Fed has conducted operational tests of small amounts to determine if the idea is operationally sound. Through its quantitative easing program the Fed has built up a massive balance sheet and has no solid plan to remove the vast reserves created by bond purchases. Previously, the Fed and the Bank of England maintained that they could just let the bonds reach expiration and then satisfy all its obligations on a calendar basis.The realization of a robust economic recovery coupled with huge bank reserves has started to make policymakers nervous. The problem remains of how to extricate the FED from a QE experiment. As Rosengren tells Hilsenrath: “I think it is inevitable when you are in a place you haven’t been before and you don’t have good underlying data that tells you what will happen when you do certain things,that you be a little bit experimental.”

The problem for the FED is that MARKETS ARE PRICING IN A GREAT LEVEL OF CERTAINTY INTO A SITUATION FRAUGHT WITH HIGH LEVELS OF RISK. The problem is similar to if NASA had got the rocket to the moon but had no experience with bringing it back to the earth. Today, New York Fed President Bill Dudley delivered a speech in the same vein as the Rosengren/Hilsenrath interview. In trying to calm the markets the Fed seems to be on a communications frenzy to assure investors that the HYPOTHETICAL IS ACHIEVABLE. In the age of experimentation risk is certainly mispriced and the relative values of P/E levels are a misdirect. IN THE AGE OF CENTRAL BANK UNCERTAINTY RISK IS UNDERPRICED.

***Elections in Europe over the next five days will create even more uncertainty for global financial markets. IF THE FRINGE PARTIES garner a large percentage of the vote–regardless of turnout–I look for Mario Draghi to engage in some jawboning with and emphasis on negative rates and a QE program based on asset-backed security purchases. The politicians in France and Italy will indirectly put pressure on the ECB by having the ECOFIN and European Commission discuss possible efforts to weaken the EURO. President Draghi will initiate some action so as to assuage the Eurocrats in Brussels and thus have the ECB maintain control over all facets of monetary policy. Every day we hear that the Bundesbank has acquiesced to some type of QE program but in a speech by Bundesbank President Jens Weidmann  yesterday, such capitulation by the Germans is not evident. In a WSJ article by Christopher Lawton, “ECB’S Weidmann:’Shortsighted’ to Focus on Euro Strength,” Weidmann says, “In order to strengthen growth and employment in the Euro area permanently, member states must ensure competitive economic structures instead of relying on the Euro exchange rate.” This is not the language of capitulation by the Bundesbank but is a direct shot by Weidmann toward the French for it appears to be  the French pushing for a dramatic intervention to weaken the EURO.

A politically vulnerable Socialist French President is searching for a magic elixir for the economy. The problem for the central bank of France and the finance ministry is that it has not direct control over monetary policy. In all fairness to the Spanish, Italians and the French, when the German undertook Hartz IV and the restructuring of its labor situation the ECB dropped interest rates and the EURO traded to a low of 0.82%. During the initial six years of  German reconstruction the euro averaged around 1.15, which provided the German export machine with great support.Europe is certainly residing in the age of uncertainty. If only the markets understood that by pricing risk accordingly!

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8 Responses to “Notes From Underground: If Everybody Is Talking Who Is Listening”

  1. Alex Says:

    Definition of a clown = People who pay money to hear Bernanke speak.

    Definition of a complete moron = People who pay money to hear Tony Blair speak.

  2. asherz Says:


    History may not repeat but possibly rhyme.

  3. Michael Greenberg Says:

    Ben Bernanke has been informing private investors that low interest rates ‘are here to stay’. One guest at a recent dinner presentation was left with the impression that the former Fed chief does not expect the federal funds rate to rise back to its long-term average of around 4% in his (Bernanke’s) lifetime

  4. ShockedToFindGambling Says:

    Yra- You wrote “As I have written about for the last year, a key weapon in the Fed’s arsenal is its REVERSE REPO FACILITY (RRP). In this, the Fed sucks up liquidity by swapping its Treasuries with a counterparty who gives the Fed cash, absorbing excess liquidity in the short-term market. The Fed has conducted operational tests of small amounts to determine if the idea is operationally sound”.

    I don’t get it. The FED has been doing Reverse Repos for decades. What are they testing? They just sell the Bonds and receive cash (or if they get lucky, Bitcoins).


  5. kevinwaspi Says:

    Perhaps Ben Bernanke was speaking more to his life expectancy than to the probability of the funds rate moving back near a long-term average. (Just a thought)

    • joe Says:

      Yes. Thank you for reminding us that there is more than one perspective to the lifetime adage.

  6. yra Says:

    Professor–my thoughts exactly—but I do wish Ben a long and healthy life indeed.

  7. Chicken Says:

    Mr. Wonderful, just like his predecessors.

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