There’s a little levity during a very stressful week of trading. Germany meeting Argentina in the World Cup final is symbolic of the battles being waged by the world’s central bankers. Jeremy Stein and the BIS view the threat of financial stability a potential concern of Janet Yellen and Mario Draghi. The world’s financial markets will be watching to see what style of play on the pitch prevails: The aggressive Argentinian speed or the more AUSTERE and supreme defensive style of Germany. In the spirit of global macro humor I ask these questions:
- Will presiding referee Thomas Griesa issue a RED CARD to the entire Argentinian team for defaulting on its debt?
- If the Argentinians get control of the ball will someone from Elliott Associates come and grab it as Griesa deems it an asset of the debtors?
- If Argentina prevails, will the trophy be confiscated and given to the intransigent creditors for sale on E-Bay?
- Will Griesa suffer the slings and arrows of outrageous fortune as he is deemed by FIFA to be a biased American judiciary with no genuine knowledge of the international beautiful game of debtor/creditor?
***The question to which we keep returning: ARE THE WORLD’S CENTRAL BANKS THREATENING THEIR CREDIBILITY? A corollary question: DOES THE FED UNDERSTAND ITS OWN FALLIBILITY? As yesterday’s FOMC minutes revealed, confusion reigns within the FED as to the strength of the real economy, especially in ways to measure the OUTPUT GAP of the employment data. How much slack exists in the labor pool to prevent a dramatic rise in wages is of paramount importance for the Fed’s “forward guidance” (and signaling to markets future FED intentions). The FED speaks with great confidence in its projections but if past performance is a guide investors should treat all Fed projections with skepticism. It was the highly regarded Ben Bernanke who maintained well into late 2007 that the housing slowdown was well contained and should pose no problems for the U.S.economy. Yet, the impact of the U.S. credit crisis was severe enough to effect banks and bondholders across the globe. The bottom line is that the FED is fraught with failings and for investors to treat all Fed releases as pearls of perfection should proceed with caution.
“Ms. Yellen told us that policy under her leadership is not rules based. As such, market participants have to rely on the Fed’s ad hoc assessment. And that is very much like reading tea leaves, as the Fed is looking at backward-looking indicators such as the most recent unemployment report. Forward-looking indicators, such as the yield curve, are less reliable as the Fed itself has actively managed gauges. That, in turn, forces market participants to try to read Ms. Yellen’s mind. Her statements make it clear that her focus is on keeping rates low to help promote job growth until inflation readings get enough over the targeted 2 percent level to warrant concern in her mind.”
So, again, the price of the FED‘s certainty can be found in a weak DOLLAR and ultimately strong precious metals. If Yellen and Bernanke admit to not understanding GOLD, I advise measuring your own fallibility and putting that into your projections.
***And now back to Europe. Readers of Notes From Underground have known that the European financial markets have never fallen off the radar as the rally in peripheral debt and certain European banks were deemed to be a fool’s paradise. Today’s news about Portuguese bank, Banco Espirito Santo, missed a bond payment sent chills through the market. Banks have never healed but have been recipients of the ECB‘s liquidity efforts. However, non-performing loans have continued to plague the balance sheets of many Spanish, Italian, and Portuguese financial institutions. (Yep, the PIIGS have returned to the headlines.) More importantly, if the ECB and the BIS continue to disagree about interest rates and financial stability, the BIS can inflict pain on Europe’s banks by pushing for sovereign debt to some type of risk-weighting, requiring the need for more bank capital. Banco Espirito Santo have only survived through the European debt crisis by loading up on Portuguese sovereign bonds. (That is, borrowing from the ECB at very low rates, buying Portuguese debt and earning the differential, all risk free.) If the BIS keeps pushing back against the ECB and the FED, more bank problems will arise.
***However, in the eyes of the French and Mario Draghi there was a positive result from the Banco Espirito Santo: the weakening of the EURO against most currencies. The move was not dramatic but did provide some respite from recent euro strength. THE KEY TO THE EURO MAY BE IN THE EURO/SWEDE CURRENCY CROSS. On July 3 the Riksbank slashed interest rates in an effort to keep the KRONER weak against the EURO (in my opinion). IF THE EUR/STOKIE TAKES OUT THE LOW OF THE CROSS FROM JULY 3 IT WILL BE A CRITICAL STATEMENT ABOUT INCREASING PROBLEMS IN THE EUROPEAN FINANCIAL SYSTEM. The range for the EUR/STOK on the day in question was: a high of 9.3580; a low of 9.1540 with a close of 9.2856. Today the close was 9.2340, which is lower, but the July 3 low of 9.1540 should become the critical number.