Notes From Underground

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.