Notes From Underground: Dear Chairman Powell,

Wednesday brings the FOMC‘s interest rate decision. The CONSENSUS is for an increase of 25 basis points to 1.50%-1.75%. Chairman Powell, you will have a chance to explain the Fed’s decision as you engage in your first press conference 30 minutes after the announcement. The financial world will have the opportunity to assess whether you will follow the Yellen/Bernanke path of attempting to control markets or to be more respectful of the collective wisdom and allow price to be determined in the tradition of Western democratic capitalist markets. The FED chairman recently acknowledged that headwinds have become tailwinds, and, even more importantly, supported by Janet Yellen’s confidant, Governor Lael Brainard. The volte face by Brainard shook the markets into the belief that the FED would actually raise rates FOUR times or more in 2018. BUT IF I WERE YOU CHAIR POWELL I WOULD RAISE 50 BASIS POINTS TOMORROW (with this CAVEAT).

If the FED was concerned about TAILWINDS then raising 50 basis points would be appropriate. The CAVEAT would be this: The FED would not raise rates again until its balance sheet shrunk to roughly $3 trillion. Quantitative tightening is in an experimental state and the effects of raising rates while shrinking reserves has no precedent. Chairman Powell, it seems that you have an affinity for allowing markets to act as signalling mechanisms and are not afraid of a mere 10% equity market correction (New York Fed President William Dudley referred to it as small potatoes). I know you and the FED Board of Governors are held captive to the ridiculousness of the Summary Economic Projections or what have become known as the DOT PLOTS.

The success of economic projections by the dot plots have been proven to be faulty at best. His excellence, Art Cashin, has proven a far better prognosticator than the FED‘s members. End the tyranny of the DOT PLOTS, unshackle the chains of market forces, raise 50 basis points and increase the pace of the balance sheet unwind, a size for which you have so much disdain. If this was the FED action the initial selloff would be short-lived as the promise of the FED on hold while reining in reserves would provide a positive backdrop in which to measure the impact of the forecasted headwinds. If you deem the tailwinds as potentially too strong a slight trimming of the sails might be just the right measure for the markets. Raising the overnight interest rates to a range of 1.75%-2.00% would leave the overnight real yield at ZERO (still extremely stimulatory). Chairman Powell, it is time to take control of the ship you have been sent to command.

***Pay attention to the Powell press conference to detect any deviation from the Yellen FED and be especially attentive to the new chairman’s references to market action. He will not answer questions about fiscal policy or the dollar for that is deemed not to be the purview of the FED but is language about deferring to markets could well prove a critical indicator. It has been many, many years since markets have been allowed to set prices on interest rates for fear of upsetting equity and currency markets. As I pointed out in Sunday’s post, the Swiss National Bank revealed its desire to intervene in currency and monetary markets to prevent a renewed appreciation in the Swiss Franc.

Following the Powell press conference, the Reserve Bank of New Zealand will announce its interest rate intentions. Acting Governor Grant Spencer will head his final meeting. The KIWI‘s overnight rate is currently 1.75% and CONSENSUS is for NO CHANGE. The interesting thing will be to read the statement and notice the attention paid the exchange rate and its input into the interest rate decision. The G-20 decries the use of interest policy to impact a nation’s currency value (HA). Another key variable is the RBNZ’s assessment of the Chinese economy for if New Zealand’s economy is sensing a slowing China the interest statement will offer forward guidance that is DOVISH. The KIWI is virtually unchanged since the February 8 meeting.

***In a Financial Times article from March 13, it seems that the U.S. is not the only country concerned about Chinese investment into key industries titled, “Backlash Grows Over Chinese Deals for Germany’s Corporate Jewels.” What prompted the increased concern is that Chinese carmaker Geely had acquired almost ten percent of Mercedes-Benz. Germany’s industrial powerhouses are fearful about Chinese intentions to “suck the country dry of its technological know-how and engineering expertise, and supplant it as one of the world’s leading industrial powers.” In the usual discussion the German fear that the Chinese Government is behind Geely’s desires so it is not fending off a market competitor but rather having to deal with a state controlled enterprise.

The rise of the dictatorial status of President Xi Jinping will provide excuses for western corporations fear Chinese investment. The recent decision by CFIUS to block the purchase of Qualcom will provide the rational for keeping the Chinese at arm’s length and the U.S. is not the only nation promoting such policies. This mindset will provide a key backdrop to the Trump administration’s effort to utilize tariffs to alter Chinese behavior. If Europe begins to introduce measures to protect against Chinese investment it will be difficult to protest against the ROSS/NAVARRO agenda of sending “soldiers to the ramparts” to challenge UNFAIR trade practices. As the article noted: “Last year Berlin tightened its law on overseas investment, enhancing ministers powers to block foreign acquisitions of 25 percent or more of companies operating in ‘critical infrastructure.'” Again, the world is in a state of high levels of uncertainty that has been defied by the complacency of markets.”


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15 Responses to “Notes From Underground: Dear Chairman Powell,”

  1. Bob Zimmerman Says:

    I had to read the 50 basis points statement twice the first time with my headphones on and the second time when I got up off the floor!

  2. sarjoy12 Says:

    50bps now and 25bps in June? When the levee breaks I’ll have no place to stay…

  3. asherz Says:

    The bubble has entered its terminal phase. After a long period of quietude in the VIX, daily volatility is now rampant, a sign of “change is a’comin.” Bitcoin is a canary in the coal mine, as were the two Bear Stearns hedge funds over a decade ago.
    I don’t think Powell wants to brand himself as the catalyst for the end of an era by a 50 basis point surprise announcement. With an expected 25 point increase, when things begin to unravel he and others will point to the Alan/Ben/Janet malfeasance that took away self correcting free market actions. His watch will remain blameless. But not if he becomes the equivalent of letting Lehman expire, which a 50 point increase could suggest, however wrongly.
    CYA is still a cardinal rule in Washington.

  4. David Richards (@djwrichards) Says:

    For 15 months, the well established pattern has been that US rates are rising while the dollar is tumbling. This has the hallmarks of a currency of a banana republic rather than the reserve currency.

  5. David Richards (@djwrichards) Says:

    Regarding the Chinese investment in Mercedes, their problem and vulnerability is that if they want to participate the electric vehicle (EV) space, rather than slowly go extinct, they and other manufacturers will have to play ball with the Chinese who have positioned themselves to call the shots on who is in the EV game and who is out. Why? EV vehicles cannot exist without cobalt material components to drive them. These are now increasingly manufactured mostly in China (and to a lesser extent in Japan, Korea and Europe). A key thing is that the Chinese currently control two-thirds of the world’s cobalt, which will soon become 90-95%, primarily though their clever, friendly win-win arrangement with the Congo, shunned and left behind by the West, which is pretty much hated in Africa due to the bad aftertaste of Western occupation colonialism and exploitation for so long. As most should already know, China has pretty much taken over Africa (and chunks of South America too).

    So just last week in fact, Chinese EV component manufacturer GEM locked up one-third of Glencore’s total global cobalt production going forward at a price that’s a small fraction of the high, floating (increasing) price that others will pay Glencore. How? Well, for Glencore it was either play ball with the Chinese (plus pay a new double-royalty fee they arranged on behalf of Congo) or face expulsion/expropriation in Congo, which contains 70% of the world’s mineable cobalt (soon to be 95%). Glencore caved of course.

    Thus, European and German auto makers have two choices:
    1) Acquiesce to the wishes of China, or
    2) Be relegated to spectators in the EV space.

    Not to mention that China is the largest market in the world for conventional, heavy and electric vehicles, so there also exists some customer clout in addition to the essential supplies clout.

    Kinda a no-brainer for Mercedes. The Chinese investment should proceed and engineering docs will be turned over if requested. And Mercedes is likely safer if it’s in the Chinese family rather than an enemy of it, because as historically good business people for many centuries, the Chinese are unlikely to do something that destroys the value of their investment.

    • yra harris Says:

      David–thanks for the great posts.Your point on cobalt–I have owned Glencore for over two years and if Ivan can keep from borrowing too much for overleveraged acquisitions it should be a total success based on the global growth story.The Germans are caught in the throws of an historically protectionist French policy this JB COLBERT to think otherwise is to be reminded of President XI when the idiots in the media praised the Chinese leader as the great free trader compared to Trump–the ease in which the mainstream accepts the newest narrative is so disconcerting –XI is for whatever benefits China at that moment in pursuit of the One Belt,One Road Initiative.

      • David Richards (@djwrichards) Says:

        Wow Yra, good on you because Glencore was a fantastic pick back then that I sure wish I had. Lots more left in the tank too as commodities are typically late cycle performers and one of the few areas with still some value today. I think some sovereign wealth funds like norway and china picked at Glencore too; recall the Chinese were being blocked by the Canadian gov’t from buying out Potash and everything else like their oil companies, but in contrast capital infusions were being welcomed rather than refused by the Swiss and Glencore when the latter faced solvency challenges in 2015. But I know not what, if anything, that has to do with how the nascent Chinese EV industry got a sweetheart deal with Glencore that others won’t get, though I understand the Chinese have a strong presence & relationships with Congo and across Africa – and could/will use it to advantage like in this case. I don’t see too much in the western press about it except this:

  6. kevinwaspi Says:

    The 50bps/3T balance sheet strategy is a good one in a world of logic and common (not so much anymore) sense. However, those attributes were eliminated in 2007. If Chair Powell proposed such a move, I believe the vote would be 8 to 1 against, sadly.

    • yra harris Says:

      Professor–you are of course correct –I was delving into the theoretical–a simple twist of fate on our parts

  7. David Richards (@djwrichards) Says:

    US dollar crashes in an epic waterfall event against everything – losing 110-300 pips against GBP, EUR, AUD, THB, MYR and everything everywhere. Even -200 pips against the lowly loonie.

    Gold jumps $24 as Brent spikes up 4 bucks and most commodities soar in an out-of-control inflationary fire higher today. Many industrial metals have doubled in a year or less. $100+ oil ahead.

    Kudlow already looks like a total idiot for his gold v dollar remark.

    Dollar index convincingly collapses below critical chart support, opening the door to 79 eventually.

    US stocks are big losers again as small fractional “gains” are again being trumped by the crashing dollar. US stock indices remain among the worst-performing asset classes on Earth, like they’ve been for a year, on a currency-adjusted inflation-adjusted basis. The false US stock narrative from CNBC drones on, still capturing the dumb money.


  8. David Richards (@djwrichards) Says:

    So after the dust settles from his first performance and the market reaction, it seems that Mr Powell is a well trained dog and accomplice at the Fed for Mr Trump & Mnuchin, who apparently want to see the US dollar head to new lows. Mission to be accomplished.

    They better be careful. The US dollar and US standard of living might be in grave danger of a nightmarish irreversible collapse.

    • kevinwaspi Says:

      David, I could not agree more. Based on the first performance, this is not an actor, nor a play, that I want to see.

      • David Richards (@djwrichards) Says:

        Sad to hear it. As I hoped maybe it was just an initial emotional overreaction to my immediate disappointment watching Mr Powell live. But subsequently both you and the market have chimed in after more time has passed for a more measured, thoughtful response. And apparently, neither you nor Mr Market give Mr Powell a good grade either, sigh.

        In addition, I’m afraid that Xi’s surprise pick Yi Gang might be similarly on a tight leash held by his president. Dog days at the world’s two most globally influential central banks. Woof!

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