Notes From Underground: You Take Bernanke. I’ll Take Kevin Warsh

The most important interview held on ACCESS JOURNALISM TV was the Squawk Box interview with former FED Governor Kevin Warsh. When I say access journalism I mean: The compromises journalists must make in order to have access to sources and places that would be denied them. For years mainstream financial media would treat Alan Greenspan with great deference and the result was a cult of personality that led to the “oracle” falling in love with a flawed policy. If Sir Alan was attacked it may mean that he would never grant another interview to the offending media outlet. The same holds for the Bernanke and Yellen Fed,e specially as the mainstream media wants access to Fed officials and to be invited to all the relevant press conferences. So my point is this: It took a former Fed official to attack the policies of the FOMC for the established media has not the gumption to challenge those sitting on the throne of power. Kevin Warsh criticized the present policies from multiple perspectives:

  1. Policy cannot be based on what is happening on our ticker machine. “The Fed should be focused on what’s happening three or four years out…” This is a justified criticism and certainly pertains to James Bullard. It was October 15 that the St. Louis Fed President spoke out about a new round of QE in an effort to the counter the sell off taking place in the equity markets. Bullard’s comments caused the massive rally in the bond markets and eventually led to the beginning of the recent six month rally in stocks. Fed policy cannot be a minute-to-minute, day-to-day, month-to-month affair;
  2. Central banks need humility. The Fed has provided the impetus for all the world’s central banks to embark on QE even though the exit strategy is uncertain  and its outcomes not riskless. FED Chair Yellen suffers from the effects of the “taper tantrum” and now the “dollar tantrum” for these have caused the Fed to be fearful of any misstep. If the FED raises rates and the DOLLAR has a sizable rally the FED worries about headwinds for the economy. As Warsh so elegantly stated: “The financial markets have Fed Chair Janet Yellen’s number.” This is a very dangerous development for as Warsh argued, “The tail is wagging the dog”;
  3. Most importantly ,markets are not setting rates but rather central banks. This is in direct contradiction of what Ben Bernanke posted on his blog yesterday. Bernanke wrote, “The bottom line is that the state of the economy, not the Fed, ultimately determines the real rate of return attainable by savers and investors. The Fed influences market rates but not in an unconstrained way; if it seeks a healthy economy, then it must try to push market rates toward levels consistent with the underlying equilibrium rate.” Warsh believes that the Fed and other central banks have to give the market a chance to determine rates and not be afraid of every selloff in equity markets. The May 2013 taper tantrum was a classic example of the FED being afraid of the market beginning to set a real rate of interest based on underlying market forces. A real-time example of the flaws in Bernanke’s post is the level of interest rates in Germany. Today German unemployment made a new low and housing prices are rising as the weak euro strengthens all segments of the German economy. It is because of the ECB policy that interest rates in Germany are artificially low by any economic metrics. Therefore, central bank policy and not market dynamics are instrumental in determining interest rates and financial outcomes.

In summation: Kevin Warsh took the FOMC to task for policy flaws, which is something the new blogger on the block Ben Bernanke will never do. The Bernanke blog will be educational but don’t look for it to be an honest voice in the discussion of Fed and central bank policy. The previous Fed Chairman cannot criticize the Board he was so instrumental in constructing.

***Other articles that were missed but have importance:
 In Sunday’s March 22 London Telegraph, reporter Szu Ping Chan wrote, “France Is Europe’s ‘Big Problem’, Warns Mario Monti.” This is a significant criticism coming from one of the beloved members of the Brussels elite. When Silvio Berlusconi was ousted from the Prime Minister post, Brussels was able to ‘”parachute “in the ultimate Eurocrat to right the situation in Italy. The article quotes Monti: “France is the big problem of the European Union because the whole construct has been leveraged on the foundation of a solid Franco-German entente. If it isn’t there then there is a poor destiny for Europe.” Monti went on to say: “Germany reluctantly accepted the euro to get approval of the other countries for its reunification process. It would have much rather kept to the Deutsche Mark. It was France who insisted to have the single currency and now it’s so uneasy with it.”
     This is amazing criticism from a consummate insider but reflects the fears of the European elite about the rise of anti-euro parties in several European states: Podemos in Spain; National Front in France; Five Star in Italy; and even the Alternative for Deutschland in a very economically healthy Germany. The European bond markets are not pricing in the fears of the establishment because the ECB‘s QE program and Draghi’s “whatever it takes” jawboning has created a sense of complacency. Also, as Bernanke would maintain, the underlying fundamentals of the EU are so weak. However, look at a chart of sovereign debt as percentage of GDP and tell me that sovereign debt is realistically priced. But as J.M.Keynes advised us: “Markets can remain irrational for longer then we can remain solvent” (especially when the balance sheet of the most powerful actors are virtually infinite … or so they believe).
     Today, Reuters posted an interesting article, “Three Weeks Into ECB Quantitative Easing, Markets Begin Taper Talk.” While I think the article is lacking in substance and probably the musings of some banks long euros it is an interesting proposition. The proponents of a quick ECB tapering of its QE make the case that the economic winds are tailwinds in Europe because the ECB waited so long to enact a genuine QE and can therefore remove the program at an earlier date. A shortened QE would result in a EURO rally and give Yellen room to raise rates without a resultant massive rise in the DOLLAR. A Fed rate rise would also curtail too large a EURO rally, thus both the ECB and the FED could proclaim mission accomplished. The only problem would be the volatility unleashed in the European sovereign debt markets and global equity markets. There will be no easy exit from the QE programs of the central banks but at some point the FED and others will have to allow the markets to find their genuine values. I’ll take Kevin Warsh.

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16 Responses to “Notes From Underground: You Take Bernanke. I’ll Take Kevin Warsh”

  1. arthur Says:

    A speculator is a man who observes the future, and acts before it occurs. Bernard Baruch

  2. ShockedToFindGambling Says:

    Yra-

    Warsh said “The Fed should be focused on what’s happening three or four years out…”

    How can they do that?……….they have no idea bout what’s going to happen next quarter, let alone 3 years out.

  3. Yra Says:

    Shocked—i agree with you on the face but more about how policy has to be forward looking–but your point is well taken

  4. Joe Says:

    I would pose the same question as Shocked. It’s my opinion we need policy makers from Realville rather than from the University Faculty Lounge. Maybe then our public institutions will admit that there are limits to what public policy and our public institutions can accomplish in the way of economic outcome guarantees that are presently promised on the come by today’s elected officials.

    I believe repeal of the Humphrey-Hawkins “dual mandate” might give monetarism another chance, by forcing Fed officials to abandoned their Orwellian double-speak that tries to justify flawed, agenda driven models. The Fed can then pursue an economic agenda rather than a political one, and perhaps stand a chance to regain their independence as the central “banking” authority.

    Yra, great post regarding today’s Media and how they cover people in power. I hope things change, in that if and when power players in public positions of trust deny access to journalists, future journalists will ask the hard questions and understand the power of the press and it’s role and responsibility in maintaining a free republic. The last few years the press has been nothing more than a chorus of political acolytes turning public institutions into icons of pop culture.

    As for Greenspan, in testimony, he did warn and caution congress about the consequences of housing policies, counter-party risk in over the counter derivatives, and growth in future government fiscal obligations. But he certainly didn’t try hard enough and never followed through. It was much easier to accept the role of financial yoda and rock star. Does anyone else think Sir Alan’s turning point was his union with media maven Andrea Mitchell?

  5. ShockedToFindGambling Says:

    Yra- To play Devil’s advocate, if looking 3 years out, the FED should be tightening aggressively, shrinking the money supply, and reserving space in a nursing home.

    The FED’s tools are very limited, despite what they say.

    What do you advocate for the FED to be doing today, if looking 3 years out.?

  6. Yra Says:

    Shocked–let us say that Warsh offered up an extreme in the 3-4 year look ahead –I think his main point is and one I have made is that FED policy cannot just be directed by what the ticker on your desk is transmitting as far as price info—that is why I use the case of Jim Bullard and his comments from Oct.15th ,2014 and now he becomes the -uber hawk with no vote–that is not policy but merely a reaction function based on a percentage move in the equity markets–I think that calls into question any sense of policy.The taper tantrum of May 22,2013 and the month following was also a moment when the FED backed off because the markets really had a chance to find some sense of equilibrium–i hate that word—policy has to be forward looking with some sense of desired outcomes to past tools utilized–how will the markets ever be allowed to determine efficient pricing and to establish some modicum of non-manipulated value.Risk is a fragile element and any attempt to artificially control it always winds up in a Minsky outcome.I think that Warsh was trying to drive that issue home and financial stability is important going forward.

  7. ShockedToFindGambling Says:

    Yra- Good explanation.

    I agree with Warsh’s premise, but it’s not going to happen. They are hard wired to their CQGs.

    The FED has consistently backed off tightening, if the stock market has a hiccup..

    They have had at least 2 year to start tightening, and have used every excuse in the book not to. Their targets continually move (cancel if close).

    Now, we are in a situation where it looks like the economy is weakening ( unless it is all weather related ), and they say they are determined to tighten.

    The FED is in a position, where if the economy starts down, they are out of bullets. They should just pull the trigger with 1/2 point at the next meeting, and see what happens.

    I don’t think the FED is capable of thinking any further out, than that.

  8. arthur Says:

    Very good points from Hedge fund Crispin Odey
    http://www.smh.com.au/business/the-economy/hedge-fund-guru-crispin-odey-says-following-china-could-lead-to-recession-20150309-13y9hr.html

  9. Yra Says:

    Arthur–thanks for the link–read it and he as usual makes good sense–

  10. Chicken Says:

    “If Sir Alan was attacked it may mean that he would never grant another interview to the offending media outlet.”

    Which means several things, all of which disqualify him from his position.

  11. Rob Syp Says:

    You gotta love the Santelli plug Harris for Fed Governor

  12. arthur Says:

    “Iran Deal.” Your global macro view? Thanks.

  13. yra Says:

    Arthur—hopefully tonight and did u read Tom Friedman’s piece with Obama–access is everything but it is a good jumping off point

  14. Dustin L. Says:

    Yra and Shocked- I can’t help but chime in on this. In my opinon the Fed needs to stop trying to direct activity via monetary policy and return to the roots of Central Banking, providing an elastic money supply to act as lender of last resort at times of illiquidity at high rates when no other lenders are willing, Bagehot style. That being said, the thought of them attempting to do this in the current environment is down right frightening! When policy has helped to spur such a massive credit bubble world wide (we have come close to deleveraging when one looks at global aggregate debt levels public and private) the idea of letting the debt system implode in a worldwide depression is something I have a hard time contemplating what the world would look like, other than downright scary. What is easier? Keep monetizing your debt and hope you can get away without creating a major inflation. So far…so good. However, how does the current monetary system survive if we continue to rely on continued CB stimulus just to keep the market from crashing?! It has been said “posterity never pays.” Thus, the ultimate macro truth still remains, there is only two ways out of this debt quagmire we are in if you accept that growth is not likely to grow as exponentially as debt has been: 1) Default. 2) Monetize the debt. Of course a mix of both is the most likely but the approximate weighting of the two is important. Will the 1937’ers stick to their guns or loose their nerve? This is a longterm game which doesn’t play out over MSM headlines but through longterm trends and the movement of capital as confidence ebbs and flows and individuals choose what to hold as stores of value and return. So, as much as the CB distortions sicken me and make the market a sick version of itself, I am reluctant to push for reform of the system until the past distortions are wiped clean either via default or inflation/monetization or both regardless of what I think the proper role of the FED and CB’s are. At that point the monetary system could use a revamp and the CB’s a reformed mandate.

    P.S. Great to have you back writing again Yra!

  15. arthur Says:

    Thanks, reading “Iran and the Obama Doctrine”…

    An Image that Tells a Story. Watermark: ​Imam Ayatollah Khomeini​. Map of Iran; Symbol of an atom and nuclear power; Text referring to Iran’s nuclear ambition,​ ​a quotation by the prophet Mohammad that says: “If knowledge exists in the Pleiades, some of the Persians would reach it”.

    http://www.banknotenews.com/files/09ce34c23a12c080019c3d66b71938d7-105.php

  16. Yra Says:

    Dustin–beautiful post.Wait for tonight’s response to Dudley’s ridiculous remarks today–I am like Vinnie babarino–I am so confused

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