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A Day Late & A Dollar Short – The Fed’s Coming Policy Mistake

A Day Late & A Dollar Short – The Fed’s Coming Policy Mistake

Authored by Lance Roberts via RealInvestmentAdvice.com,

An honest review…

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This article was originally published by Zero Hedge

A Day Late & A Dollar Short – The Fed’s Coming Policy Mistake

Authored by Lance Roberts via RealInvestmentAdvice.com,

An honest review of history shows the Fed is consistently a “day late and a dollar short” regarding monetary policy. With the market trading at historical extremes, it is clear the Fed is about to make another policy mistake.

The history of “financial accidents” due to the Fed’s monetary intervention schemes is evident. Not just over the last decade, but since the Fed became “active” in 1980.

What should be evident is that before the Fed became active, economic growth was accelerating. There were few crisis events and economic prosperity was broad. However, post-1980, the trend of economic growth declined. There are many reasons leading up to each event, However, the common denominator is the Fed tightening monetary policy.

Notably, Fed rate hiking campaigns also correlate with poor financial market outcomes, as higher rates impacted the credit and leverage markets.

Once again, the Fed is discussing tightening monetary policy. The first step would be reducing their $120 billion monthly bond purchases, then potentially hiking rates. While they believe they can achieve this reduction without disrupting the equity markets or causing an economic contraction, history suggests otherwise.

Right Idea. Wrong Implementation.

The Fed’s assumption is that by providing excess reserves to the banking system, the banks would lend those funds, thereby expanding economic activity. Furthermore, as discussed previously, the Federal Reserve’s entire premise of inflating asset prices was the subsequent boost to economic activity from an increased “wealth effect.”

“This approach eased financial conditions in the past and, so far, looks to be effective again. Stock prices rose and long-term interest rates fell when investors began to anticipate the most recent action. Easier financial conditions will promote economic growth. For example, lower mortgage rates will make housing more affordable and allow more homeowners to refinance. Lower corporate bond rates will encourage investment. And higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending.” – Ben Bernanke

However, after more than a decade of “monetary policy,” little evidence supports that claim. Instead, there is sufficient evidence “monetary policy” leads to other problems. Such include greater wealth inequality, speculative investment activity, and slower economic growth.

Current monetary policy has its roots in Keynesian economic theory. To wit:

A general glut would occur when aggregate demand for goods was insufficient, leading to an economic downturn resulting in losses of potential output due to unnecessarily high unemployment, which results from the defensive (or reactive) decisions of the producers.”

In such a situation, Keynesian economics states that fiscal policies could increase aggregate demand, thus expanding economic activity and reducing unemployment. 

The only problem is that it didn’t work as planned because “monetary policy” is NOT expansionary.

“Since 2008, the total cumulative growth of the economy is just $3.5 trillion. In other words, for each dollar of economic growth since 2008, it required $12 of monetary stimulus. Such sounds okay until you realize it came solely from debt issuance.

Fed Should Have Already Hiked Rates

The problem for the Fed is they are always a “day late and a dollar short.” Where the Fed repeats its mistake is keeping monetary policy accommodative for too long.

Instead, the Fed should use Government interventions to hike rates from zero while the excess liquidity supports economic growth.

For example, during the “Financial Crisis,” the Fed should have hiked rates as the spike in economic growth occurred in 2010-2011. At that point, both the Fed and Government had flooded the economy with liquidity. Yes, hiking rates would have slowed the advance in the financial markets. However, the excess liquidity would have offset the impact of tighter monetary policy.

If they had hiked rates sooner, interest rates on the short-end would have risen. Such would have given the Fed a policy tool to combat economic weakness in the future. But, of course, such assumes a historically normal response to economic recoveries. In that case, the yield curve would steepen sharply, providing higher yields to lenders.

Higher yields would slow speculative investment activity in the financial markets, housing, and other leveraged market investments. Such would reduce the financial risks to markets and potentially the need to continually “bailout” bad actors.

Such was a point made by Don Kohn,the Fed’s former vice chair for financial supervision.

“Dealing with risks to the financial stability is urgent. The current situation is replete with unusually large risks of the unexpected, which, if they come to pass, could result in the financial system amplifying shocks, putting the economy at risk.”

Policy Mistake In The Making

Don Kohn explicitly noted the Fed’s mention of “notable” vulnerabilities in the financial system. With asset values at historical highs, and record levels of financial debt, the concerns are valid.

The problem for the Fed is that interest rates are already at zero, the Government is running a massive deficit, not to mention $120 billion in QE monthly. Such puts the Fed in a poor position to respond to an economic downturn resulting from the bursting of an asset bubble or a debt crisis.

Our view aligns with GMO co-founder Jeremy Grantham. He argued:

“The Fed should act to deflate all asset prices carefully, knowing that an earlier decline, however painful, would be smaller and less dangerous than waiting.”

Yes, if the Fed had acted earlier to start hiking rates in which QE was in full swing, the market indeed would not have doubled in a year. However, the Fed would be in a much better position to minimize the damage from the next recessionary spat.

“Right now, systemic risk is not something the Fed is required to take into account as they carry out their missions. They should be required to broaden their perspective to consider the systemic implications of their actions and of the activities and firms they oversee and be held accountable for doing this. – Kohn

Maybe, if such were the case, the Fed would not have to “bailout” the financial institutions every time the market declines.

In the end, the Fed will be a “day late and a dollar short” once again.

Tyler Durden
Fri, 10/22/2021 – 11:23









Author: Tyler Durden

Economics

FT-IGM US Macroeconomists Survey for December

The FT-IGM US Macroeconomists survey is out (it was conducted over the weekend). The results are summarized here, and an FT article here (gated). Here’s…

The FT-IGM US Macroeconomists survey is out (it was conducted over the weekend). The results are summarized here, and an FT article here (gated). Here’s some of the results.

For GDP, assuming Q4 is as predicted in the November Survey of Professional Forecasters, we have the following picture.

Figure 1: GDP (black), potential GDP (gray), November Survey of Professional Forecasters (red), November SPF subtracting 1.5ppts in Q1, 05ppts in Q2 (blue), FT-IGM December survey (sky blue squares), all on log scale. FT-IGM GDP level assumes 2021Q4 growth rate equals SPF November forecast. NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

In the figure above, I’ve used the SPF forecast of 4.6% SAAR in 2021Q4; the Atlanta Fed’s nowcast as of yesterday (12/7) was 8.6% SAAR. A new nowcast comes out tomorrow.

Interestingly, q4/q4 median forecasted growth equals that implied by the Survey of Professional Forecasters November survey (which was taken nearly a month before news of the omicron variant came out).

The q4/q4 forecast distribution for 2022 is skewed, with the 90th percentile at 5% growth, the 10th percentile at 2.5%, and median at 3.5%. I show the corresponding implied levels of GDP (once again assuming 2021Q4 growth equals the SPF ).

Figure 2: GDP (black), November Survey of Professional Forecasters (red), FT-IGM December survey (sky blue squares), 90th percentile and 10th percentile implied levels (light blue +), my median forecast (green triangle), all on log scale. FT-IGM GDP level assumes 2021Q4 growth rate equals SPF November forecast. NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

On unemployment, the median forecast is for a deceleration in recovery,

Figure 3: Unemployment rate (black), November Survey of Professional Forecasters (red), FT-IGM December survey (sky blue square), 90th percentile and 10th percentile implied levels (light blue +), my median forecast (green triangle). NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

The survey respondents also think that the participation rate will take a long time to return to pre-pandemic levels.

Source: FT-IGM, December 2021 survey.

On inflation, the median is higher than the November SPF mean estimate for 2022 of 2.3% (and Goldman Sachs’ current estimate).

Source: FT-IGM, December 2021 survey.

The entire survey results are here.


Author: Menzie Chinn

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Economics

FT-IGM Survey for December

The FT-IGM survey is out (it was conducted over the weekend). The results are summarized here, and an FT article here (gated). Here’s some of the results….

The FT-IGM survey is out (it was conducted over the weekend). The results are summarized here, and an FT article here (gated). Here’s some of the results.

For GDP, assuming Q4 is as predicted in the November Survey of Professional Forecasters, we have the following picture.

Figure 1: GDP (black), potential GDP (gray), November Survey of Professional Forecasters (red), November SPF subtracting 1.5ppts in Q1, 05ppts in Q2 (teal), FT-IGM December survey (teal squares), all on log scale. FT-IGM GDP level assumes 2021Q4 growth rate equals SPF November forecast. NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

In the figure above, I’ve used the SPF forecast of 4.6% SAAR in 2021Q4; the Atlanta Fed’s nowcast as of yesterday (12/7) was 8.6% SAAR. A new nowcast comes out tomorrow.

Interestingly, q4/q4 median forecasted growth equals that implied by the Survey of Professional Forecasters November survey (which was taken nearly a month before news of the omicron variant came out).

The q4/q4 forecast distribution for 2022 is skewed, with the 90th percentile at 5% growth, the 10th percentile at 2.5%, and median at 3.5%. I show the corresponding implied levels of GDP (once again assuming 2021Q4 growth equals the SPF ).

Figure 2: GDP (black), November Survey of Professional Forecasters (red), FT-IGM December survey (teal squares), 90th percentile and 10tth percentile implied levels (blue +), my median forecast (green triangle), all on log scale. FT-IGM GDP level assumes 2021Q4 growth rate equals SPF November forecast. NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

On unemployment, the median forecast is for a deceleration in recovery,

Figure 3: Unemployment rate (black), November Survey of Professional Forecasters (red), FT-IGM December survey (teal square), 90th percentile and 10th percentile implied levels (blue +), my median forecast (green triangle). NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

The survey respondents also think that the participation rate will take a long time to return to pre-pandemic levels.

Source: FT-IGM, December 2021 survey.

On inflation, the median is higher than the November SPF mean estimate for 2022 of 2.3% (and Goldman Sachs’ current estimate).

Source: FT-IGM, December 2021 survey.

The entire survey results are here.


Author: Menzie Chinn

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Economics

Is anyone in Ottawa going to do anything about inflation?

The government needs to cut taxes and stop borrowing, but politicians want to raise taxes and spend billions more The federal government is putting on…

The government needs to cut taxes and stop borrowing, but politicians want to raise taxes and spend billions more

The federal government is putting on a masterclass about how to increase the cost of living. It’s doing everything from raising taxes during the middle of a pandemic to massive government borrowing and money printing. Now the question is: will any politician do anything to fight inflation?

The latest report from Statistics Canada shows prices jumping 4.7 per cent over the year. That’s the highest annual price increase in nearly two decades.

A primary driver of this inflation is soaring energy prices.

“Energy prices were up 25.5 per cent year over year in October, primarily driven by an increase in gasoline prices,” according to Statistics Canada.

Making it more expensive to fuel your car and heat your home is the goal of the federal carbon tax, which has increased twice during the pandemic. In April, the carbon tax will rise again, this time to 11 cents per litre of gasoline.

Carbon tax hikes don’t stop there. Prime Minister Justin Trudeau said he will increase his carbon tax to nearly 40 cents per litre by 2030 and impose a second carbon tax through fuel regulations that could add an extra 11 cents to the per litre pump price.

What has the Official Opposition said about rising gas prices?

Conservative Party Leader Erin O’Toole wants to impose two carbon taxes of his own that will soak a family for $20 every time they fuel up their minivan.

Canadian politicians could immediately provide relief at the pumps. South Korea just reduced its gas taxes by 20 per cent, and India is providing relief too.

“The reduction in excise duty on petrol and diesel will also boost consumption and keep inflation low, thus helping the poor and middle classes,” reads the Indian government’s news release.

Canadians are even facing higher taxes every time they pick up a six-pack or a bottle of wine. Taxes now account for about half of the price of beer, 65 per cent of the price of wine and more than three-quarters of the price of spirits.

Another source of higher prices is the government’s printing press, which has been on overdrive during the pandemic. When the government prints more dollars, the dollars in your salary and savings account buy less.

The central bank has created $370 billion during the pandemic by purchasing financial assets such as government debt. That 300-per-cent growth in the Bank of Canada’s assets far outpaces the growth that occurred during the recessions of the 1970s, 1980s and 1990s. In fact, it far outstrips the growth from the beginning of 2008 until the beginning of the pandemic.

What is the central bank buying with its freshly printed dollars? Government of Canada debt makes up 85 per cent of the assets the Bank of Canada buys. That means the government is financing a good chunk of its deficits by devaluing your money.

The obvious first step to rein in this inflation tax would be to stop creating so much government debt for the Bank of Canada to purchase in the first place.

But every federal party leader just spent the last election promising more government borrowing. The Liberal Party, Conservative Party and New Democratic Party promised to increase spending by $78 billion, $51 billion and $214 billion respectively.

Families are getting soaked by higher prices while politicians are asleep at the wheel. The government needs to cut taxes and stop borrowing, but politicians want to raise taxes and spend billions more. It’s time for politicians to wake up from their slumber and provide Canadians with a concrete plan to stop these rising prices.

By Franco Terrazzano
Federal Director
Canadian Taxpayers Federation

Franco Terrazzano is the Federal Director of the Canadian Taxpayers Federation.

Courtesy of Troy Media.



Author: Editor

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