Germany was the issue at the IMF and G-20 meetings as all nations suffering economic headwinds delivered harsh criticism of Angela Merkel, Wolfgang Schaueble and, of course, Bundesbank President Jens Weidmann. It was Germany’s continued emphasis on budget restructuring and fiscal soundness that was holding back Europe and resulting in global economic challenges. France can’t grow because the Germans insists on the French authorities bringing their budget down to the prescribed 3 percent of the Maastricht Treaty. The peripheral nations are saddled with private and public sector debt that is not serviceable during times of economic stagnation.
In tomorrow’s London Telegraph, Ambrose Evans-Pritchard has an article about the move by Italian Beppe Grillo’s Five Star movement to petition for a consultative referendum on bringing back the Italian lira and leaving the euro currency. It is a consultative referendum and non-binding but it will rattle the walls of Italy’s elite Eurocrats. AEP’s article is full of interesting views but an important issue for Italy, France and Spain is that they are saddled with a currency that fits Germany but is problematic for the debt-plagued, zero-growth economies of the “periphery.” The economics of high debt is difficult to overcome without a weak currency and stepped up fiscal spending. “This is not a moral failing by Italy over recent years. It is a mechanical ‘denominator effect,’ the result of a rising debt burden on a shrinking base of nominal GDP.”
The problems of Europe are coming to the boil as the weak economy is giving rise to political groups that are anti-Brussels, anti-ECB and anti-euro. The Germans are pressing hard for control of European monetary and fiscal policy for they understand the GOLDEN RULE: He who has the GOLD makes the rules. If not authoritarian control Germany understands it now has increased leverage in the realm of global finances. All of those policy makers pressing Germany for increased fiscal spending only enhance Berlin’s bargaining position. It is Germany money that maintains the continued low yields on all European sovereign debt. Without a German guarantee Mario Draghi would be back at Goldman hosting roundtables.
***Stanley Fischer’s speech at the IMF this weekend revealed a great deal about the Yellen Fed. In the speech, delivered at the Per Jacobsson Foundation Lecture October 11, and titled, “The Federal Reserve and the Global Economy,” the Fed Vice-Chair emphasized the importance of the Fed’s role in the international economy. Interestingly, the speech occurred after the release of the September FOMC minutes, which sparked a sizable rally in the SPOOS and other equity markets.
The MINUTES revealed that the Fed discussed the strength of the DOLLAR and continued European economic weakness as possible headwinds for the U.S. economy, resulting in the FED remaining at sub-normal interest rates for a longer duration. Basically, forget the Summary Economic Projections and the DOT PLOTS: international economic data has some impact on the FOMC‘s policy. After reading Stanley Fischer’s speech, I have little doubt that Mr. Fischer was the force behind the Fed’s growing concern about the global economy. The basic rationale is this:
1. Financial linkages in the global system: U.S. residents’ ownership of foreign assets has risen to nearly $25 trillion (more than 140 percent of annual U.S. GDP). Total foreign investment in the U.S. by foreigners is larger at $30 TRILLION with U.S. Treasuries being a key component. My opinion is this: If the world wants to prevent a mass liquidation during times of economic stress the Fed has to help provide liquidity to keep the world financial system afloat;
2. If the world economy is struggling it behooves the Fed to help the struggling nations because global slowdowns hurt all economic actors. It is a classic feedback loop for Fischer. If the U.S. moves too quickly it could harm the Asians and Europeans and thus provide an adverse effect for the U.S. as its export markets suffer from lack of demand. Fischer makes this point and it is quite bothersome: “And if foreign growth is weaker than anticipated, the consequences for the U.S. economy could lead the Fed to remove accommodation more slowly than otherwise.”
This is why the DUAL MANDATE is a problem. The Fed can never be wrong in its policy decisions because it can make a call based on such grandiose fundamentals as inflation and unemployment. (As we have just seen with Yellen’s decision to invoke the Labor Market Conditions Index and its dashboard of 19 variables.) The Fed can move the “goalposts” until the market exacts its price and now that Fischer throws the global economy into the mix there will always be a rationale for maintaining the present course of action. Further, Fischer states: “… what is the Federal Reserve’s responsibility to the global economy?”
Yes, Fischer says that the Fed must strive to keep its own house in order but be aware that its policies have external reverberations. The FED DOESN’T SET FOREIGN POLICY AND MANY TIMES ECONOMIC OUTCOMES HAVE INTERNATIONAL IMPACTS BUT IT IS NOT THE FED’S PURVIEW TO JUDGE THE CONSEQUENCES OF U.S. POLICY OUTCOMES AND MAKE DECISIONS TO AFFECT THOSE RESULTS. IF THE PRESIDENT AND CONGRESS INSTILL ECONOMIC SANCTIONS ON A BELLIGERENT NATION SHOULD THE FED SOFTEN THE IMPACT BY KEEPING U.S. RATES LOW?
3. Fischer’s summation: “Because the dollar is the primary international currency, we have, in the past, had to take action–particularly in times of global economic crisis–to maintain order in international capital markets, such as the central bank liquidity swap lines extended during the global financial crisis. In that case, we were acting in accordance with our own dual mandate, in the interest of the interest of the U.S. economy, by taking actions that also benefit the world economy.”
The dollar is not the Fed’s responsibility but that of the Treasury and that is just the beginning of the massive power grab by an non-elected policy board. This may have been Fischer’s speech to his international cohorts but it was probably the instigation for Rand Paul’s 2016 campaign. Is the world truly comfortable with the U.S. dollar and its exorbitant privilege, especially when U.S. policy has proven to lack exorbitant responsibility?
Tags: Angela Merkel, dual mandate, ECB, Fed, G-20, Germany, IMF, Italy, Janet Yellen, Jens Weidmann, lira, Mario Draghi, Stanley Fischer, U.S. Dollar, U.S. Treasuries, Wolfgang Schauble
October 13, 2014 at 8:43 pm |
âThe Fed cited the euro, yen and sterling as weakening against the dollar. Hmmm…let’s see….the ECB had just announced an asset purchase program, speculation was mounting that the BOJ would add to its own QQE program, and the Fed meeting took place the day before the Scottish referendum, thus putting a significant risk premium on sterling. More broadly, even in the absence of idiosyncratic factors elsewhere (the same sort of idiosyncratic factors, it need not be said, that provided a US tailwind via a weakening dollar for much of the Fed’s QE adventures), does it really come as a surprise that the dollar might strengthen as the Fed starts to contemplate its first tightening in nearly a decade? Really?
Perhaps Macro Man’s reading too much into this, but it looks like one of those cases where those PhD models that assume “all else being equal” might have allowed its range of adjustable factors to be a little too narrow. Either that or, as Yellen herself suggested, the Fed might be able to learn something from markets. Sadly, if the recent dollar rally came as any sort of surprise, the FOMC might have to start with the basics- defining “mine”, “yours”, etc., because it would appear they have a LOT to learn.â
October 13, 2014 at 8:55 pm |
Someone has to step up to to the plate, ECB is confused, they have no firm grip on their countries, This is a wall of sand, waiting to crumble, as for the Fed, they know what must be done. Raise rates and release the funds that many Boomers have. Maybe this will let the folks who have some money feel more confident with a higher yield, thus spreading out the wealth, so to speak. The people will be the movers to expand the global economy, not the political hacks who think they know what is right for us!
October 13, 2014 at 9:36 pm |
Yra- I would maintain that the Fed has an unannounced triple mandate in recent years- the third being keeping equity and bond markets levitating.
There is a great advantage to the US as having the dollar as the international reserve currency, which came into existance after WWll, as US economic and military superiority saw no alternatives. The Bretton Woods agreements facilitated this as well. With the Nixon Shock of totally delinking the dollar from gold in 1971, the US and Saudi agreement establishing the exclusivity of the petro-dollar in oil transactions has maintained the dollar’s superiority.
The first chink in changing this fact began with the delinkage of the dollar from gold and making it a fiat currency giving unlimited ability to print dollars. The abandonment of the US as its role as the sole superpower is the breaking of the second chink, as US foreign policy has begun the process of alternative currencies beginning to break the dollar’s exclusivity in settling international trade transactions. This will be a slow process initially, but with Fed balance sheets highly leveraged and US national debt up over 70% in six years, the fiat dollar will ultimately go the way of the pound sterling in financial currency dominance. This is of great concern to the US government and to the Stanley Fischers as competitive devaluations are repeating the scenario witnessed 80 years ago.
The markets are just beginning to take cognizance of these developments.
Sorry for the verbosity in this post.
October 14, 2014 at 6:35 am |
Asherz–it is a good summation of the Nixon real politic and the affects it has —again the U.S. could be the world’s banker as Keynes and others may have agreed to—-but that role would mean an exorbitant responsibility which Congress and the Fed has never shown—go back and read Jacques Reuff and the Monetary Sin of the west
October 14, 2014 at 9:00 am |
I enjoyed your interview with Rick on CNBC. Regarding your comment about the level on the 2-10 bonds dipping below 1.60. Making you nervous. Why?? is it risk off, slowing economy? Would you elaborate please? Thanks Jim
October 14, 2014 at 9:30 am |
Great post yra and nice exchange on cnbc today. what are your thoughts on Russel Napiers global deflation hypothesis. He thinks that with the lack of a US CA deficit, the world will run out of dollars, deflation will result and competitive devaluations will make Gold the winner. Certainly price action of the past 2 weeks looks confirming.
October 14, 2014 at 9:39 am |
Abee—that is interesting and I agree that it is the central bank fear and thus response to any deflation threat that makes GOLD the play.The talking heads on TV continue to discuss the inflation angle but I disagree—-remember the GOLD/YUAN cross at 7150 area as important–I will write about it tonight —for it is important
October 14, 2014 at 10:08 am |
Congress has no responsibility for anything but their own special interests groups, IMHO. You might say I’m a true product of my environment, the street I grew up on literally taught me that lesson long ago.
Often despite rhetoric, the results are not subtle at all. For instance, why else would the pipeline be denied?