Notes From Underground: “You Say Why and I Say I Don’t Know” (Because Confusion Reigns)

The FED‘s upcoming FOMC meeting (September 16-17) is resembling the theatrics of the Greek debt crisis: Opinions abound about what do to and the entire world has voiced concerns about the outcomes from whatever decision Chair Yellen decides. The media is filled with articles advising the Fed to raise/don’t raise. However, we’ve come to the point, JUST DO IT. Unlike Nike, there will be no victory.

Today Larry Summers wrote on his blog that the FED SHOULD NOT raise rates because structural economic conditions don’t warrant FED action. (The post was nicely summarized by Bloomberg’s Alexandra Harris in a piece titled, “Case Against Fed Hike Now ‘More Compelling.'”) Summers says the FED is now at a REAL FUNDS rate of -1.52 % and even with this historic low real rate “financial conditions are helping the economy less than in previous years.” Because the present zero interest rate policy is having no effect on borrowing it is not time to raise rates.

But this does not answer FED critics who maintain that the QE policy and zero rates is the problem as the financial repression of savers is holding back some constituents of the demand equation. Also, businesses are reticent to embark upon capital spending as ZIRP presents a picture of great economic uncertainty.

Further, in response to those who proclaim that the FED needs to RAISE RATES to elevate its credibility, Summers writes: “… policy makers who elevate credibility over responding to clear realities make grave errors. The best way the FED can maintain and enhance its credibility is to support a fully employed American economy achieving its inflation target with stable financial conditions.”

This is a straw man argument because the FED‘s previous metric had 6.5% as the employment target and the 5.5% as NAIRU and now we are at 5.1% even though the population participation rate in the labor data is at very low levels. How do we determine the definition of “fully employed”?

More importantly, Summers states the need for stable financial conditions. There is no way any analysis can determine what are financial stable conditions in a world where central banks are artificially determining the value of the cost of money through massive intervention in the credit markets. Uber-cheap money has allowed corporations to financially engineer lower PE ratios by borrowing massive amounts of money to purchase their own equity through stock buybacks.

Previous Fed members such as Jeremy Stein and Richard Fisher have noted the power of the FED’s QE programs to undermine the real value of financial assets by what Alan Greenspan has referred to as altering the outcomes of time preference for all classes of bond values. While Summers minimizes the importance of the Fed’s credibility I maintain that a central banks’ credibility in a world of fiat currency is of paramount importance. If the Fed were to lose its credibility the result will be seen in the YIELD CURVES. If the curves steepen after next Thursday’s decision the market may be signalling its aversion to a FED staying too low for too long. It will not be the immediacy of any price action but rather the telltale outcome after a few days. Patience will be demanded to see which way the market votes.

In another effort to impact a NO vote on a FED RATE RISE, the FT’s Martin Wolf writes, “Keep Rates low–the world is still abnormal.” Wolf maintains the FED should vote NO because there is low inflation, a strong DOLLAR and ultra-low real yields will be a “long-term feature of the world economy.” More importantly, Wolf takes on the BIS for its stance that equilibrium in the financial sector is more important than “equilibrium in the real economy.”

In the BIS-directed world, unemployment should be tolerated as long as financial excesses are prevented. Wolf wants  macroprudential regulations to rein in financial excesses rather than monetary policy. “In sum, central banks should continue to focus on stabilizing the real economy, though more needs to be done to curb financial excesses.”

The IMF and the World Bank have also joined the chorus of voices advising the FED to say NO to a September rate increase. It is bad politics for two global credit institutions put in place by the post-war U.S. power elite to voice opinion on an issue of U.S. domestic importance. If the FED were to maintain present policy at the behest of global concerns it would cause Congress to challenge the FED on its dual mandate. The politics of monetary policy are tough enough in its attempts to answer the criticisms from the Executive and Legislative Branches of the U.S. Government. Everybody else OUGHT to keep their lobbying behind the walls at Davos.

The IMF is purportedly speaking on behalf of the emerging market economies in calling for a NO RAISE, but in tomorrow’s FT there is an article titled, “Emerging Markets Call On Fed To Lift Rates and End Uncertainty.” The article cites finance ministers and central bank governors from various EM nations who want an end to the volatility that continued uncertainty brings. The article cites one of the world’s best central bankers, Raghuram Rajan, Governor of the Bank of India. He said, “It’s preferable to have a move early on and advertised, slow move up rather than the Fed be forced to tighten more significantly  down the line.” The cacophony of voices is making for confused and volatile markets.

***Today, the RBNZ cut its overnight lending rate to 2.75% as EXPECTED. But the KIWI currency is down almost 2 percent as Governor Graeme Wheeler cited the value of the currency as a reason to cut rates. He said, “While the lower exchange rate supports the export and import competing sectors, further depreciation is appropriate,given the sharpness of the decline in the N.Z.”s export commodity prices.”
During last weekend’s meeting of G-20 Finance Ministers and Central Bank Governors Meeting, the second point in the communique said, “WE WILL REFRAIN FROM COMPETITIVE DEVALUATIONS, AND RESIST ALL FORMS OF PROTECTIONISM.” Now the RBNZ’s statement seems to run afoul of the recent communique and the ink isn’t even dry. Oh, so about the criticism of China’s 3% devaluation of the YUAN ….


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11 Responses to “Notes From Underground: “You Say Why and I Say I Don’t Know” (Because Confusion Reigns)”

  1. Sarah Lambert Says:


  2. kevinwaspi Says:

    The race to the bottom is heating up to the boiling point. G-20 vs. RBNZ, BOJ vs. PBOC, ECB vs. all peripherals. When will the Keynesians read Lord Keynes warning of a liquidity trap, and his warning of how monetary policy cannot create demand? One need only look at the velocity of money and the labor participation rates in developed economies to see his warning is our present state.

  3. Sophocles Says:

    This has become ridiculous. Some one please inform Summers and company that It’s 25 freaking bps. Completely agree “Just Do It!”

  4. the american limey Says:

    as with many interconnected things it is interesting, I think, to consider the macro or whole view. I would imagine the fed have modeled the cost to our economy if we create problems in other economies by raising rates. One of their mandates, I think, is to attempt to stabilize our economy and raising rates would NOT do that right now. SO my view, albeit ignorant, is that the fed will NOT raise rates in 2015 because they are not complete muppets.

  5. yra Says:


  6. Alex Says:

    Markets are perverse.

    Few if any think stocks will rally on an interest rate increase. Many think it will be the beginning of the end.

    The correct TRADING move will probably be to wait for them to smash prices then buy the crap out of it on ANY sign of a rally off those lows. Don’t go higher than a 5m chart.

    The smash might only last less than 30 mins. But it could be longer so the boys squeeze them all out.

    Markets are PERVERSE.

  7. yra Says:

    Alex–it may take 24 hours or more to see what we need to see whichever way the fed turns–patienece will be rewarded as the ALGO s will be first in but that may not be wise

  8. kevinwaspi Says:

    Yra, Who could argue with Irving Fisher? And to follow up with that equation, we can solve for M or Money by dividing both sides by V or velocity. Money equals price times transactions divided by velocity. M= PT/V Well, we have plenty of M, not much V, and slowing T, so I suspect that P is actually much greater than the measured rates of inflation. Of course I’m biased, I just paid the second installment of my real estate tax bill, which has only doubled in the past 8 years!

  9. yra Says:

    Professor—a quick tutorial on Fisher always welcome and a hat tip for being so well done

  10. Blacklisted Says:

    Why anyone would assign credibility to the Fed is a total mystery. Besides, it’s not the Feds credibility that matters – it’ govts, which is about ready to peak.

    As the world transitions from public to private, which direction will govt bonds go, and what can the Fed do about it?

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