The Federal Reserve: “It’s Not Our Fault”

Source: David Stockman

Excerpt: … it has become a critical issue that the Fed can and does “grant money to particular beneficiaries.” Owners of securities – Treasuries, agency bonds and MBS, stocks, investment-grade and high-yield corporate bonds, municipal bonds, CLOs, etc. – have been huge beneficiaries of Fed money. Many speculating in derivatives markets (i.e. call buyers and put sellers) have benefited hugely. Robinhood traders – and day-traders and equities speculators generally – have benefited. The leveraged speculating community has been a particular beneficiary.

Michael Bond Comments: As to who loses, the younger generations. But also the 90% in the older generation who no longer can earn interest income in retirement, as well as faltering pensions that have been extracted to bailout wall street for the last 12 years.

While I see tax policies as equally guilty, yes Federal Reserve it IS your fault and your false narratives prove it – “symmetric inflation targets”. In plain English, they want to hammer consumers with higher inflation to make up for the lack of high consumer inflation in the past – while ignoring completely the valuation inflation in the financial markets.

Doug Noland: Precarious World

Another fascinating – if not comforting – week. A Friday Wall Street Journal headline: “Big Tech’s Embarrassment of Riches – Amazon, Apple, Facebook and Google all show resilience during pandemic while undergoing congressional scrutiny.” Amazon, Apple, Facebook and Google all reported booming earnings the day following appearances by respective CEOs before the House Antitrust Subcommittee. Down the road from Capitol Hill, the FOMC released their post-meeting policy statement. Chairman Powell then conducted a virtual press conference where he addressed key issues: “inflation running well below our symmetric 2% objective,” and “inequality as an issue has been a growing issue in our country and in our economy for four decades.”

While it is true that inequality has been building for decades, this trend has worsened markedly since the 2008 crisis. Much more so of late.

Powell: “So [inequality is] a serious economic problem for the United States, but it’s got underlying causes that are not related to monetary policy or to our response to the pandemic. Again, four decades of evidence suggests it’s about globalization, it’s about the flattening out of educational attainment in the United States compared to our other competitor countries. It’s about technology advancing too.

If we could chart “inequality,” it would at this point be rising parabolically – following the trajectory of the Fed’s balance sheet. I had been assuming Fed holdings would at some point be getting a lot larger. It seemed clear inequality would only get worse. COVID dramatically accelerated both trends.

Bubble Analysis is these days as fruitful as ever. We’re in the waning days of a multi-decade super-cycle. Bubble markets have become extraordinarily distorted and increasingly disorderly. Protracted deep structural maladjustment has fostered pervasive Bubble Economy Dynamics. Aggressive monetary inflation and central bank market interventions – primary contributors to financial and economic Bubbles – are being deployed to hold Bubble collapse at bay. And we’re now witnessing the initial consequences of desperately throwing massive stimulus at speculative market Bubbles and a Bubble Economy.

Apple closed Friday trading at an all-time high $412, with a market capitalization of a world-leading $1.76 TN. After its 90% rally off March lows, the stock enjoys a y-t-d gain of 40%. Amazon has gained 72% so far in 2020, with market capitalization surging to $1.59 TN. Google has gained 9% ($995bn market cap), and Facebook 23% ($720bn). Microsoft sports a year-to-date gain of 28%, with a market value of $1.53 TN. Apple and Facebook traded to record highs this week, with Amazon, Microsoft and Google just below recent all-time highs.

If you have the great fortune to be employed at one of the tech giants (owning shares and option grants), you likely have never had it so good. Moreover, this windfall has created the wherewithal to trade the markets, likely furthering your good fortune.

Powell: “As I have emphasized before, these are lending powers, not spending powers. The Fed cannot grant money to particular beneficiaries. We can only create programs or facilities with broad-based eligibility to make loans to solvent entities with the expectation that the loans will be repaid.”

While Powell’s comments were directed to the Fed’s emergency lending facilities, it has become a critical issue that the Fed can and does “grant money to particular beneficiaries.” Owners of securities – Treasuries, agency bonds and MBS, stocks, investment-grade and high-yield corporate bonds, municipal bonds, CLOs, etc. – have been huge beneficiaries of Fed money. Many speculating in derivatives markets (i.e. call buyers and put sellers) have benefited hugely. Robinhood traders – and day-traders and equities speculators generally – have benefited. The leveraged speculating community has been a particular beneficiary.

It’s Central Banking 101 that central banks must stay well clear of “Credit allocation.” Choosing winners and losers puts a central bank’s credibility at risk and jeopardizes independence. The Fed let the genie out of the bottle with its move to QE and other emergency measures during the last crisis.

Compliments of COVID, inequality is now rightfully considered one of the critical issues of this era. Fed measures directly – and conspicuously – benefit Wall Street firms and clients, the general markets, corporations, and the wealthy. Why, then, shouldn’t the Federal Reserve today turn its full attention to supporting the less fortunate and disadvantaged – especially during the worst pandemic in a century. It’s a reasonable question, and the Fed faces very serious credibility and independence issues if it can’t muster a good answer.  The Federal Reserve should never have ventured into the wealth creation and allocation business.

Ironically, markets these days actually fancy all the focus on inequality.

Powell: “So [inequality is] a critical, critical problem for our society but one that really falls mainly to fiscal policy and other policies. Our part of it is to push as hard as we can on our employment mandate… We saw what happened to people at the lower end of the income spectrum late in the last expansion. It was the best labor market in 50 years they told us. We saw that the biggest wage increases were going to people on the bottom end of the wage spectrum… So a tight labor market is probably the best thing that the Fed can foster to go after that problem which is a serious one.”

“Pushing as hard as we can on our employment mandate” translates to “pressing monetary stimulus to the absolute limit.” Results are essentially preordained: inequities will only worsen. Markets, meanwhile, celebrate the reality that monetary policy is trapped in a dynamic of securities markets Bubble inflation, with bursting Bubbles poised to inflict irreparable damage to Fed credibility. In the meantime, the Fed is stuck knee-deep in political muck (of its own making).

From the FT (James Politi): “Mr Biden made the US central bank a key focus on his plan for a ‘major mobilisation of effort and resources’ to help ‘advance racial equity across the American economy’, his campaign said… In particular, it said that Mr Biden would work with Congress to amend the Federal Reserve act to force the central bank to ‘aggressively enhance its surveillance and targeting’ of ‘persistent’ racial inequalities.

Chairman Powell and the FOMC would clearly prefer to defer to fiscal policy to help rectify inequality and festering social stress. QE and aggressive market interventions have essentially granted Washington a blank check book. I’ll assume eventual stimulus legislation bipartisan compromise will push this year’s fiscal deficit to $5 TN.

Dump aggressive monetary stimulus on a speculative marketplace and the outcome will be a more unwieldy Bubble. Dump extreme stimulus on a maladjusted Bubble Economy – in the throes of a pandemic – and expect strange results. How many tens of billions flowed to Robinhood and other trading accounts? Just imagine the enthusiasm generated when free chips are handed to patrons as they enter a casino. How much stimulus flowed freely into stock and bond funds?

How many fiscal stimulus dollars flooded into the already overflowing coffers of the big tech companies, as millions of restaurants and small businesses were breathing their dying breaths. How much free money was used to purchase iPhones, computers, tablets, TVs and such, helping secure the manufacturing jobs of workers throughout Asia? How much stimulus went into software, cloud and online services, myriad downloads and such, completely bypassing millions of struggling small businesses and most U.S. workers.

This is not your granddad’s Economic Structure. And to hear the Federal Reserve still focused on below target inflation is a farce. For decades now, the shift to new technologies and a services-based economy placed downward pressure on many consumer prices. And seemingly tepid consumer price pressures empowered a transformation to permanent policy accommodation (the Fed and global central banks). Loose monetary policies stoked asset price inflation and Bubbles, while accommodating economic structural transformation. When bursting market Bubbles exposed economic vulnerabilities, the Fed resorted to ever more aggressive stimulus measures.

It’s now all coming home to roost. Fed stimulus only stokes dangerous speculative excess, while the Bubble Economy structure is revealed as a financial black hole. Despite massive monetary and fiscal stimulus, U.S. GDP contracted at a shocking 33% annualized pace during the second quarter. Ominously, Trillions of fiscal stimulus were absorbed like a dry sponge.

This is key: There was a chance for a rapid return to some semblance of normalcy. If the virus had been quickly contained, brisk economic recovery would have restored confidence. Previous spending patterns would have returned, and the vast majority of businesses would likely have survived. But the virus became more contagious and, as a society, we didn’t make the necessary sacrifices to gain the upper hand on COVID.

The outbreak resurgence came with major consequences. The recovery – in confidence and economic activity – was disrupted. The return to previous spending patterns was significantly postponed – if not crushed. Importantly, this ensures that hundreds of thousands (millions?) of sole proprietorships to major corporations will fight for survival. Severe Credit issues are now unavoidable.

“Hogwash!” would be the reply from today’s fearless stock market bulls. Clearly, equities markets are playing a different game – with the assumption aggressive monetary stimulus can sustain Bubble excess for the foreseeable future.

Yet other markets corroborate my analysis. Ten-year Treasury yields ended the week at a record low 53 bps – down 13 bps for the month. Perhaps more reflective of the deteriorating environment, the U.S. dollar index suffered its worst month since 2010 – losing 4.8% versus the euro, 6.2% against the Swedish krona, 5.7% against the Norwegian krone, 5.5% to the British pound and 2.0% to the Japanese yen. Over the past month, Gold gained $195, or 11%, to a record $1,976. Silver surged 34% in July. And how about some of this week’s equities declines: Germany’s DAX down 4.1% and Japan’s Nikkei sinking 4.6%.

The U.S. has been inflating historic financial and economic Bubbles – and these Bubbles are faltering. Financial Bubbles and Deep Structural Economic Maladjustment will force policymakers into The Precarious World of Ongoing Massive Monetary and Fiscal Stimulus. Significant dollar devaluation is inevitable, with the dollar’s world reserve currency status in jeopardy. An equities market speculative melt-up only exacerbates instability and systemic fragility. Risk of major social, political and geopolitical instability is escalating. And the safe havens signal a major crisis is unavoidable.

Original Post 1 August 2020

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Categories: Doug Noland, Perspectives