Tag: news

By Robert P. Murphy of Mises Institute

The Fed Can’t Save Us

In December, the Fed hiked its target for the federal funds rate, which is the interest rate banks charge each other for overnight loans of reserves. Since 2008 the Fed’s target for the Fed Funds Rate had been a range of 0 percent – 0.25 percent (or what is referred to as zero to 25 “basis points”). But last month they moved that target range up to 0.25 – 0.50 percent. Ending a seven-year period of effectively zero percent interest rates.

From our vantage point, we already see carnage in the financial markets, with the worst opening week in US history. This of course lines up neatly with standard Austrian business cycle theory, which says that the central bank can give an appearance of prosperity for a while with cheap credit, but that this only sets the economy up for a crash once rates begin rising.

However, there is something new in the present cycle. The Fed is trying to raise rates while simultaneously maintaining its bloated balance sheet. It is attempting to pull off a magic trick whereby it can keep all of the “benefits” of its earlier rounds of monetary expansion (i.e., “quantitative easing” or “QE”) while removing the artificial stimulus of ultra-low interest rates. As we’ll see, this attempt will not end well, for the Fed officials or for the rest of us. In the meantime, Ben Bernanke will look on with concern, writing the occasional blog post and perhaps giving a speech about poor Janet Yellen’s tough predicament.

Austrian Business Cycle Theory

One of the seminal contributions of Ludwig von Mises was what he called the circulation credit theory of the trade cycle. In our times, we simply call it Austrian business cycle theory, sometimes abbreviated as ABCT. The Misesian theory was subsequently elaborated by Friedrich Hayek, and it was partly for this work that Hayek won the Nobel Prize in 1974.

In the Mises/Hayek view, interest rates are market prices that perform a definite social function. They communicate vital information about consumer preferences regarding the timing of consumption. Entrepreneurs must decide which projects to start, and they can be of varying length. Intuitively, a high interest rate is a signal that consumers are “impatient,” meaning that entrepreneurs should not tie resources up in long projects unless there are large gains to be had in output from the delay. On the other hand, a low interest rate reduces the penalty on longer investments, and thus acts as a green light to tie capital up in lengthy projects.

So long as the interest rate is set by genuine market forces, it gives the correct guidance to entrepreneurs. If consumers are willing to defer immediate gratification, they save large amounts of their income, and this pushes down interest rates. The high savings frees up real resources from current consumption — things like restaurants and movie theaters — and allows more factories and oil wells to be developed.

However, if the interest rate drops not because of genuine saving, but instead because the central bank electronically buys assets with money created “out of thin air,” then entrepreneurs are given a false signal. They go ahead and take out loans at the artificially cheap rate, but now society embarks on an unsustainable trajectory. It is physically impossible for all of the entrepreneurs to complete the long-term projects they begin.

In the beginning, the unsustainable expansion appears prosperous. Every industry is growing, trying to bid away workers and other resources from each other. Wages and commodity prices shoot up; unemployment and spare capacity drop. The economy is humming, and the citizens are happy.

Yet it all must come crashing down. In a typical cycle, price inflation eventually rises to the level that the banks become nervous. They halt their credit expansion, allowing interest rates to start rising to a more correct level. The tightening in the credit markets causes pain initially for the most leveraged operations, but gradually more and more businesses are in trouble. A wave of layoffs ensues, with large numbers of entrepreneurs suddenly realizing they were too ambitious. The painful “bust,” or recession, sets in.

This Time Is Different (Sort of)

Since the financial crisis of 2008, the stock market’s surges have coincided with rounds of QE, and the market has faltered whenever the expansion came to a temporary halt. The sharp sell-off in August 2015 occurred when investors thought the first rate hike was imminent (it had been scheduled for September 2015). That particular hike was postponed, but after it went into effect in December, we soon saw the market tank to 2014 levels.

As we would expect in times of Fed tightening, the official monetary base has fallen sharply in recent months, but this doesn’t mean that the Fed is selling off assets (as it would in a textbook tightening cycle). Indeed the Fed’s assets have been constant since the end of the so-called taper in late 2014.

This is unusual since the monetary base and the Fed’s total assets typically move in tandem. Yet since late 2014, there have been three major drops in the monetary base that occurred while the Fed was dutifully rolling over its holdings of mortgage-backed securities and Treasuries, keeping its total assets at a steady level.

The explanation is that the Fed has been testing out new techniques to temporarily suck reserves out of the banking system, while not reducing its total asset holdings.

Meanwhile, the Fed in December bumped up the interest rate that it pays to commercial banks for keeping their reserves parked at the Fed. I like to describe this policy as the Fed paying banks to not make loans to their customers.

What Does It All Mean?

So why is the Fed trying to tighten the money supply without selling off assets as it has done in the past? It boils down to this: In order to bail out the commercial and investment banks — at least the ones who were in good standing with DC officials —as well as greasing the wheels for the federal government to run trillion-dollar deficits, the Federal Reserve in late 2008 began buying trillions of dollars worth of Treasury debt and mortgage-backed securities (MBS). This flooded the banking system with trillions of dollars of reserves, and went hand in hand with a collapse of short-term interest rates to basically zero percent.

Now, the Fed wants to begin raising rates (albeit modestly), but it doesn’t want to sell off its Treasury or MBS holdings, for fear that this would cause a spike in Uncle Sam’s borrowing costs and/or crash the housing sector. So the Fed has increased the amount that it is paying commercial banks to keep their reserves with the Fed (rather than lending them out to customers), and — for those institutions that are not legally eligible for such a policy — the Fed is effectively paying to borrow the reserves itself. By adjusting the interest rate the Fed pays on such transactions, the Fed can move the floor on all interest rates up. No institution would lend to a private sector party at less than it can get from the Fed, since the Fed can create dollars at will and is thus the safest place to park or lend reserves.

We thus have the worst of both worlds. We still get the economic effects of “tighter monetary policy,” because the price of credit is rising as it would in a normal Fed tightening. Yet we don’t get the benefit of a smaller Fed footprint and a return of assets to the private sector. Instead, the US taxpayer is ultimately paying subsidies to lending institutions to induce them to charge more for loans, while the big banks and Treasury still benefit from the effective bailout they’ve been getting for years.

It Can’t Last

Will the Fed be able to keep the game going? In a word, no. We’ve already seen that even the tiniest of interest rate hikes has gone hand in hand with a huge drop in the markets. Furthermore, the Fed’s subsidies to the banks are now on the order of $11 billion annually, but if they want to raise the fed funds rate to, say, 2 percent, then the annual payment would swell to more than $40 billion. That is “real money” in the sense that the Fed’s excess earnings would otherwise be remitted to the Treasury. Therefore, for a given level of federal spending and tax receipts, increased payments to the bankers implies an increased federal budget deficit.

Janet Yellen and her colleagues are stuck with a giant asset bubble that her predecessor inflated. If they begin another round of asset purchases, they might postpone the crash, but only by making the subsequent reckoning that much more painful.

You don’t make the country richer by printing money out of thin air, especially when you then give it to the government and Wall Street. The Fed’s magic trick of raising interest rates without selling assets can’t evade that basic reality.

via Zero Hedge http://ift.tt/1quw5BK Tyler Durden

The predictive ability of Goldman’s FX team is well known around here, and maybe is second only to Dennis Gartman in its “fadability”. For those unfamiliar, here are some recent examples:

• A Crushed Goldman FX Strategist Speaks: “We Badly Misread This Meeting”
• Goldman Does It Again: Dollar Plummets After Goldman FX Says “Dollar Rally Far From Over”
• Goldman Capitulates: Closes Out 5 Of Its 6 Top Trades For 2016 With A Loss

And those, of course, exclude the stories about Goldman’s legendary .000 batting Thomas Stolper.

So after having been dead wrong on the reaction to the USD during three out of the past three major central bank announcements, has Goldman’s FX strategist Robin Brooks finally thrown in the towel on his ongoing, and wrong, strong USD call?

Not at all.

Here is his latest note title “Check Please, Chair Yellen”, in which he says “In line with our Fed view, we hold to our Dollar bullish call.”

* * *

Last week’s speech by Chair Yellen laid out a clear narrative for the Fed’s dovish shift. The narrative goes that market turmoil in Q1, in part because of anxiety over RMB devaluation (Exhibit 1), caused markets to scale back their expectations for rate hikes, which helped insulate the US economy from adverse repercussions. The Fed thus needed to shift dovish, in order to validate the shift in market expectations. That is certainly a reasonable narrative; it just isn’t what happened. The SPX and front-end rates have been positively correlated since August, as both have been buffeted by the ebb and flow of RMB devaluation fears. In the run-up to the last FOMC, those fears were abating, causing risk to rally and the front-end to price back hikes. The Fed shift was thus a genuine dovish impulse, causing the Dollar to fall and US equities to outperform. In this FX Views, we review key elements of the Fed narrative (focusing on speeches by Chair Yellen and Governor Brainard) and argue that the dovish shift is: (i) unlikely to last long, given that the narrative behind the shift does not mesh well with how markets traded, i.e., is arguably quite weak; and (ii) is not obviously risk positive, given that it boosts US growth at the expense of the Euro zone and Japan, i.e., tilts growth away from where it is needed most. In line with our Fed view, we hold to our Dollar bullish call.

The narrative behind the recent Fed shift was laid out clearly in recent speeches by Chair Yellen (on Mar. 29 at the Economic Club of New York) and by Governor Brainard (on Feb. 26 at the Monetary Policy Forum). However, elements of that narrative do not line up well with our sense of markets:

• Chair Yellen argued that a rally in front-end interest rates helped insulate the economy from market turmoil in Q1, much of which was related to “market confusion over China’s FX policy.” The Fed therefore needed to validate the change in market expectations by shifting dovish. This is not our perception of markets. Since August, stocks and front-end rates have been positively correlated (Exhibit 2), with the SPX and 2-year Treasury yield rebounding from mid-February, following reassuring comments by the PBoC Governor on the RMB. The Fed therefore gave a genuinely dovish impulse to an already rebounding market, causing US equities to outperform (Exhibit 3). This isn’t obviously bullish for risk globally, given that it shifts growth to the US from the Euro zone and Japan, places that arguably need it much more (Exhibit 4).
• Chair Yellen also argued that lower front-end rates mean that the market recognizes the Fed’s data dependence. We disagree. The beta of front-end rates to our proprietary US MAP data surprise series has fallen back to the lows seen during calendar guidance (Exhibit 5), so that the market’s perception of data dependence is arguably back to the days of 2011/12. The recent rally in front-end rates, instead, is more about a perception that the Fed is very dovish.
• Governor Brainard argued that the “sensitivity of exchange rate movements to economic news and to changes in foreign monetary policy appears to have been relatively elevated recently,” in an argument that unconventional monetary policy “may contribute more to shifting of demand across borders than boost overall (global) demand.” This point is important, because it signals a potential shift in view on QE, emphasizing the beggar-thy-neighbor aspect over increased global monetary policy accommodation. While the beta of the broad Dollar to US MAP surprises rose as forward guidance was unwound, it has since fallen and is now borderline insignificant.
• Finally, Governor Brainard argued that the divergence theme is outdated, given that inflation is so similar across the US, Japan and the Euro zone. But she also states that falling import prices (due to Dollar strength) “subtracted an estimated ½ percentage point from core PCE inflation,” essentially making the point that underlying divergence is stronger than meets the eye, one of our 10 commandments for this year.

The Fed’s narrative therefore looks somewhat at odds with how markets have behaved. This leaves open two interpretations. First, it is possible that the underlying reaction function has always been dovish and that these are just the latest talking points. This is certainly what the market looks to be pricing, with less than one hike priced cumulatively through the end of 2016. In this case, there is hardly any point obsessing over whether this or that talking point makes sense, because these are just placeholders for a dovish policy stance. Second, the narrative may be a weak one, something of a lagged response to the ructions of Q1. This could see the Fed shift hawkish again, in line with our US economists’ view for three hikes this year.

We think there are two paths from here. One is what the market is pricing, a world where the Dollar is kept in check by a dovish Fed and restraint from those central banks (the BoJ and ECB) facing genuinely low inflation. We think this scenario is difficult for risk assets outside of the US, because underlying imbalances in the G10 are still heavily monetary in origin, i.e., too little monetary accommodation in Europe and Japan and, arguably, too much in the US. The second is for monetary policy in the G10 to finish the job, which will mean a stronger Dollar, though obviously not in a straight line. After all, the past year has shown that Dollar strength is a deflationary shock, which periodically causes the Fed to shift in a dovish direction. We see this scenario as more risk positive, because additional monetary impulses from Europe and Japan will buffer less accommodation out of the US. Such a scenario would also allow the fix for $/CNY to move higher in order for the RMB to be roughly stable in trade weighted terms, i.e., would not necessarily be negative for EM. Our view is still that policy makers will converge to the second scenario, which is what our forecasts reflect.

* * *

What is perhaps most ironic about Brooks’ note is that this “strong dollar” note hits the tape just days after another Goldman strategist admitted he was wrong about the “Yellen Call”, which is the assumption that Yellen would care less about markets going forward, and more about the economy. So much for that.

As for Goldman’s persistent long dollar call, here is what the USD has done today….

 

… and in 2016.

 

Actually, purely based on statistics, it is long overdue for Goldman to be finally correct. Perhaps going long the USD here is not such a bad idea, especially with Kuroda and Draghi both about to claw their eyes out as a result of the relentless strength of the Yen and the Euro.

via Zero Hedge http://ift.tt/1quw2px Tyler Durden

By Stratfor

A string of unusual attacks by al Qaeda’s North African branch could shed some light on the jihadist group’s latest predicament. Pressure is mounting on al Qaeda in the Islamic Maghreb (AQIM) to counter the Islamic State’s growing encroachment on its territory, resources and pool of recruits. The rise of an effective rival for the helm of global jihadism has forced al Qaeda to step up its game, especially in areas where it has been weakened. Northern Africa — and particularly Mali, where France’s military intervention has significantly degraded AQIM’s capabilities over the past few years — is one such place.

The reversal of AQIM’s fortunes by both the Islamic State and France may be the motive behind the group’s recent spate of attacks against soft targets in African cities, such as the Hotel Splendid in Burkina Faso and the Grand Bassam resort in Ivory Coast. As the group strives to remain relevant in the face of numerous threats to its position in the region, it will likely continue to ramp up its attacks against Western targets in countries that lack the security resources to defend them.

In December 2015, al-Mourabitoun — a breakaway faction of AQIM led by Mokhtar Belmokhtar — rejoined al Qaeda’s North African branch after nearly three years of estrangement. The reunion has had a noticeable impact on both the tempo and selected targets of terrorist activity in West Africa ever since. The groups’ cooperation reflects a key strength of al Qaeda’s broader franchise structure: flexibility. The ability of various al Qaeda nodes to work with one another or on their own gives the group two major advantages over its enemies: better funded and more dynamic groups, and the ability to leverage small, local militant groups for its own purposes.

AQIM will need these advantages if it is to rebuild its presence in the region. With AQIM’s local and regional goals in mind, the group’s recent high-profile, low-cost attacks serve two purposes. For one, they undercut regional security while making local governments appear incapable of protecting their people. However, they also attract international attention to al Qaeda, reminding like-minded jihadists — and the world — that the Islamic State is not the only powerful contender for leadership of the global jihadist movement.

via Zero Hedge http://ift.tt/1Vxgywd Tyler Durden

When it comes to jobs growth in the US, all one can say is thank god for waiters and bartenders: after all, a Starbucks barista is precisely what a recently fired oil chemical engineer making half a million dollars really wants to do with their life.

 

However, the days of easy job gains for the BLS may be coming to an end (even if on a seasonally adjusted, goalseeked basis the trend has a long way to go).

According to Brand Eating, fast food king McDonald’s has been spotted testing a self-serve McCafe coffee station/kiosk out in downtown Chicago. The station is located in the restaurant but apart from the counter and looks to be a theoretically more convenient way for those who just want a cup of coffee to skip the regular line (while also freeing employees from having to make each drink in the back).

In essence, this is the company’s latest venture to make employees responsible for one less task as corporate HQ slowly but surely responds to minimum wage hikes sweeping all states, and in the process, outsource its minimum wage workers to simple machines which will never unionize or have any demands aside from being cleaned occasionally.

As shown below, the coffee station includes a touchpad for ordering and paying (it appears to take credit card only), a beverage spout, and a dispenser for cups.

 

According to Brand Eating, “drink options include lattes, mochas, and cappuccinos that are customizable with various flavorings, types of milk, and amount of espresso. There doesn’t seem to be an option for drip coffee. The price for the drinks is $2.99. The concept and set up is very similar to McDonald’s Create Your Taste customized ordering available at some restaurants.

The idea makes a lot of sense seeing as, here in the U.S., the McCafe espresso and steamed milk is automatically dispensed from a machine anyway, with syrups added after accordingly. What they’ve basically done here is put the dispenser on the other side of the counter and added automation for the syrup and ordering/payment.

 

At the very least, having a touchscreen menu to look through is much preferable to me than the video screen menu at my local McDonald’s that intermittently plays a montage of the drinks so that I have to wait through to see the menu.

What’s next? Why more of this of course.

via Zero Hedge http://ift.tt/1MSztAg Tyler Durden

Having been crushed by his Valeant exposure, today there was finally some good news for the embattled hedge fund manager.

Speaking on an investor conference call Ackman said Valeant is now on track to deliver its delayed 10-K by month end which will likely give the company a shot in the arm because investors will look at the company anew, according to Reuters.

Apparently this is sufficient to ignite a monster squeeze which has seen the stock soar from its $29 opening price to the mid-$30s.

This follows yesterday’s announcement by the board’s ad hoc board committee which cleared the company of any further wrongdoing; incidentally this is the same board which can’t even limit the presence of a dissident member, namely former CFO who has refused to quit the board despite being scapegoated by Valeant for everything that has gone wrong with the embattled pharmaceutical and now burst roll-up over the past 3 years.

William Ackman on Wednesday said the board of Valeant could find a new chief executive officer in “weeks” and said the stock will become “investable” again once the annual report is filed.

That remains to be seen, but it certainly appears investable if only for this moment: earlier today VRX stock was up nearly $6, jumping some 20%, for its biggest intraday surge since September 2005. At last check it was up 17%, although that sounds bigger than it actually as the following chart clearly demonstrates.

Those who missed it, can hear a replay of Ackman’s call at the following page.

via Zero Hedge http://ift.tt/1ROByKp Tyler Durden