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Archive for the ‘Federal Reserve’ Category

Bernanke Promises to Keep ‘Punch Bowl’ Filled

Posted by Larry Doyle on July 21st, 2009 1:59 PM |

Everybody back in the pool!!! Turn that music up and let’s rock!!

Why so ebullient and energized to ‘party?’  Well, our host, Ben Bernanke, has promised to keep the ‘punch bowl’ filled. As the Wall Street Journal highlights in writing Bernanke Sheds Light on Exit Strategy:

Mr. Bernanke reiterated that despite recent improvements in the economy and financial markets, the federal-funds rate will likely remain near zero for an extended period of time.

That statement by the ‘grand and wonderful wizard’ Ben Bernanke is the equivalent of turning up the volume to some music by the J. Geils Band. How are the partygoers reacting? Filling up their cups, that being, buying bonds like there is no tomorrow.

On the day, the Treasury market has rallied by 10 to 15 basis points (recall lower rates means higher bond prices) as all the partygoers (market participants) reenter into a variety of ‘positive carry’ trades.  In layman’s terms, positive carry trades very simply are a vehicle to use cheap dollars (i.e Fed Funds borrowed between 0 and .25) to purchase higher yielding assets. Another commonly used term for this form of investing is utilizing increased ‘leverage.’ Yes, we have previously partied with increased leverage. That did not end well…

Why would traders or others utilize this approach in the midst of such economic uncertainty? Very simply, when the host tells you that the ‘punch bowl’ is going to remain filled for an extended period, he is compelling you to get involved. In fact, he is effectively forcing you into the pool. How so? The returns on the safest, shortest, and most liquid assets (T-bills, CDs, money markets) will also be kept low for an extended period.

As an investor, the Fed chair is literally forcing you to take greater risks in your investments. Those funds will be utilized by financial institutions to generate increased earnings and thus write off the loans on their books which are defaulting at an ever increasing rate.

What are the risks of keeping the ‘punch bowl’ filled too long?

> inflation, as too much “liquid”ity enters the system

> asset bubbles, as too many cheap dollars chase returns

> mispricing of risk, as market participants focus on the technical rally rather than fundamental analysis

The challenge for Bernanke is knowing when and how to pull that punch bowl away.

The last wizard, Alan Greenspan, badly miscalculated in his assessment which led to our current economic turmoil.

While it is nice to see positive returns in 401K statements and other monthly investment statements, be mindful of another tried and true piece of Wall Street wisdom . . . ‘the road to hell is paved with positive carry.’

In the meantime, as long as we understand the parameters of this situation, let’s enjoy Ain’t Nothing Like a House Party by the J. Geils Band!!

LD

Is Ben Bernanke a Grand and Wonderful Wizard?

Posted by Larry Doyle on July 21st, 2009 10:53 AM |

“There’s no place like home.”

Just as Dorothy in The Wizard of Oz merely wanted to return to the peace and comfort of her home in Kansas, aren’t we all hoping to ‘get home?’

What is home and how do we get there? Home is a sense of economic stability and future prosperity achieved by ‘following the yellow brick road.’ If it were only that easy.

Many believe The Wizard of Oz is not simply a whimsical child’s story. Having been written in the late 1800s, does the story represent a populist message? A progressive message? Is the yellow brick road a symbol of the ‘gold standard?’ I will defer to literary historians who are far more schooled than me on these topics.

What about ‘the grand and wonderful wizard’ Ben Bernanke? Are we merely supposed to disregard that ‘man behind the curtain?’ Well, folks, we’re not in Kansas anymore and if we are ever going to ‘get home’ then we had better start promoting an increased level of transparency and accountability along the way.

I am not here to impugn Mr. Bernanke. I do not question his character or his intentions. In fact, I think he is a far better Fed chair than his predecessor Alan Greenspan. However, is Ben Bernanke and the Federal Reserve all-knowing and all-powerful? I think not. Is the economic future of the United States of America so dependent on one man and one institution to determine an accurate and timely path for monetary easing and tightening? Whether we like it or not, our economic system is totally dependent on the Fed. Read what the ‘wonderful wizard’ thinks about The Fed’s Exit Strategy in today’s WSJ.

The risks involved in our dependence upon the Fed are far too great. What needs to be done?

The Federal Reserve must be audited. What is on the Fed’s books? What are all of the assets and the liabilities? What are the Fed’s short term and long term risks? The need for transparency in our economy has never been greater. The least transparent entity within our economic sphere is the Federal Reserve.

Two hundred and seventy five Congressmen have signed a bill, HR 1207 and S 604, sponsored by Congressman Ron Paul (R-TX) requiring an audit of the Federal Reserve. This bill is currently in the House Financial Services Committee, a very critical stage. I beseech anybody who loves our country to solicit your representatives to support this bill. Instructions for doing so are in the above link.

Do we have the brains, the heart, the courage?

LD

For a fuller understanding of the inner workings of the Federal Reserve, please review:

The All Powerful Federal Reserve
June 12, 2009

The All Powerful Federal Reserve: Part II
June 12, 2009

Don’t Call the Fed Independent
June 17, 2009

Fed Independence and the Constitution
June 24, 2009

Federal Reserve Statement July 15, 2009

Posted by Larry Doyle on July 15th, 2009 3:50 PM |

The minutes of the Federal Reserve Open Market Committee meeting from June 23-24 were just released. Let’s not take anything on face value, so bring some tools as we review and continue navigating our economic landscape.

For the diehards in the audience, here are the actual minutes, including voting results, for your reading pleasure.

For those who may choose a synopsis complete with graphics, I submit the Fed’s Summary of Economic Projections.

What do we learn? For those not familiar with Fed policy and procedures, the target goals of the Federal Reserve are maximum employment and stable prices.  Where do Fed governors think the economy stands now and where are we headed? They measure our economic health in terms of output growth, that is GDP (gross domestic product), unemployment, and inflation.

Output Growth Projections

>FOMC participants generally expected that, after declining over the first half of this year, output would expand sluggishly over the remainder of the year.

>Almost all participants viewed the near-term outlook for domestic output as having improved modestly relative to the projections they made at the time of the April FOMC meeting, reflecting both a slightly less severe contraction in the first half of 2009 and a moderately stronger, but still sluggish, recovery in the second half. With the strong adverse forces that have been acting on the economy likely to abate only slowly, participants generally expected the recovery to be gradual in 2010.

>Participants’ projections for the change in real GDP in 2009 had a central tendency of negative 1.5 percent to negative 1.0 percent, somewhat above the central tendency of negative 2.0 percent to negative 1.3 percent for their April projections. Participants noted that the data received between the April and June FOMC meetings pointed to a somewhat smaller decline in output during the first half of the year than they had anticipated at the time of the April meeting.

>Participants expected, however, that recoveries in consumer spending and residential investment initially would be damped by further deterioration in labor markets, the continued repair of household balance sheets, persistently tight credit conditions, and still-weak housing demand. They also anticipated that very low capacity utilization, sluggish growth in sales, uncertainty about the economic environment, and a continued elevated cost and limited availability of financing would contribute to continued weakness in business fixed investment this year. Some participants noted that weak economic conditions in other countries probably would hold down growth in U.S. exports. A number of participants also saw recent increases in some long-term interest rates and in oil prices as factors that could damp a near-term economic recovery.

Unemployment

>Even though all participants had raised their near-term outlook for real GDP, in light of incoming data on labor markets, they increased their projections for the path of the unemployment rate from those published in April. Participants foresaw only a gradual improvement in labor market conditions in 2010 and 2011, leaving the unemployment rate at the end of 2011 well above the level they viewed as its longer-run sustainable rate.

>Their projections for the average unemployment rate during the fourth quarter of 2009 had a central tendency of 9.8 to 10.1 percent, about 1/2 percentage point above the central tendency of their April projections and noticeably higher than the actual unemployment rate of 9.4 percent in May–the latest reading available at the time of the June FOMC meeting. All participants raised their forecasts of the unemployment rate at the end of this year, reflecting the sharper-than-expected rise in unemployment that occurred over the intermeeting period. With little material change in projected output growth in 2010 and 2011, participants still expected unemployment to decline in those years, but the projected unemployment rate in each year was about 1/2 percentage point above the April forecasts, reflecting the higher starting point of the projections.

Inflation

>The central tendency of participants’ projections for personal consumption expenditures (PCE) inflation in 2009 was 1.0 to 1.4 percent, about 1/2 percentage point above the central tendency of their April projections. Participants noted that higher-than-expected inflation data over the intermeeting period and the anticipated influence of higher oil and commodity prices on consumer prices were factors contributing to the increase in their inflation forecasts. Looking beyond this year, participants’ projections for total PCE inflation had central tendencies of 1.2 to 1.8 percent for 2010 and 1.1 to 2.0 percent for 2011, modestly higher than the central tendencies from the April projections. Reflecting the large increases in energy prices over the intermeeting period, the forecasts for core PCE inflation (which excludes the direct effects of movements in food and energy prices) in 2009 were raised by less than the projections for total PCE inflation, while the forecasts for core and total PCE inflation in 2010 and 2011 increased by similar amounts.

Overall, I read this sumamry as an admission by Fed governors that the economy has currently achieved a degree of stability with risks still skewed toward slower growth. In regard to unemployment, it is likely we will have a protracted level of heightened unemployment for a sustained period. On the inflation front, we have some concerns about increasing inflation although it is not imminent.

Over and above these consensus opinions, it is notable that the range of opinions amongst Fed governors is extremely wide. That to me spells real uncertainty as well.

On the topic of the Fed’s balance sheet, the governors do not believe they will need to implement more quantitative easing.

Staff projections suggested that the size of the Federal Reserve’s balance sheet might peak late this year and decline gradually thereafter.

Taken in totality, our economic patient is certainly not dead nor a vegetable. That is the good news. However, in reading these minutes, the patient’s quality of life remains in serious question.

LD

Fed Statement: The Good, The Bad and The Ugly

Posted by Larry Doyle on June 24th, 2009 4:20 PM |

The Federal Reserve released its much anticipated statement on the economy this afternoon. What did we learn? Let me provide a synopsis of Bloomberg’s coverage of the  U.S. Federal Open Market Committee June 24 Statement:

The Good:

> Conditions in financial markets have generally improved in recent months.

> Household spending has shown further signs of stabilizing

> Businesses appear to be making progress in bringing inventory stocks into better alignment with sales.

> the Committee continues to anticipate that policy actions to stabilize financial markets and institutions, fiscal and monetary stimulus, and market forces will contribute to a gradual resumption of sustained economic growth in a context of price stability.

> substantial resource slack is likely to dampen cost pressures, and the Committee expects that inflation will remain subdued for some time.

The Bad:

> household spending remains constrained by ongoing job losses, lower housing wealth and tight credit.

> businesses are cutting back on fixed investment and staffing

> economic activity is likely to remain weak for a time

> prices of energy and other commodities have risen of late

In typical fashion, the Fed has attempted to cover all the bases and calm the markets. Were they successful? Not really. Why? The Fed remains between a rock (an exceptionally weak economy) and a hard place (providing excessive stimulus which will exacerbate fears of inflation given the explosion of the Fed’s balance sheet). The Bernanke Conundrum remains very much in place.

How have markets reacted to the Fed statement?

The Ugly:

> Bonds have sold off as the market was hoping the Fed may have provided a pleasant surprise in the form of an increase in its quantitative easing. With the selloff in bonds, interest rates moved higher by approximately 10 basis points (1 basis point is .01%) and the 10yr U.S. Treasury is now quoted at 3.7%.

> Equities also sold off with the DJIA and S&P 500 both retracing by approximately 1% after the Fed’s statement. The Nasdaq has held up given positive earnings from Oracle.

What does it all mean?

Sense on ¢ents believes interest rates will continue to work their way higher given the overwhelming funding needs for the foreseeable future (remember our funding needs this year are projected to be $3.2 TRILLION, a mere quadrupling of the last few years). As rates move higher, equities will gradually decline from current levels.

LD

Fed Independence and the Constitution

Posted by Larry Doyle on June 24th, 2009 10:25 AM |

Are President Barack Obama, Ben Bernanke, Tim Geithner, and Congress about to overrun the Constitution of the United States?

President Obama is proposing to make the Federal Reserve the ‘regulator of last resort’ in order to handle issues of systemic risk. Will that move compromise the Fed’s independence and in turn violate the Constitution? I addressed this topic the other day in writing, “Don’t Call the Fed Independent.”

Adrian Van Eck of Van Eck-Tillman Advisories provides a chilling, historical perspective on this issue. I strongly recommend your saving and reviewing Van Eck’s commentary. The foundation of our country–that is, the United States Constitution– is in the crosshairs. Perhaps Barack and team may want to rethink the implications of this leg of their financial regulatory reform. What may be even scarier is if, in fact, they already have.

I thank my friend for sharing this patriotic post with me and I recommend you share it as well.

LD

Yesterday the President of the United States made a move to gain total power over the Federal Reserve.  This is very, very serious.  It worries me that Fed Chairman Ben Bernanke did not protest.  It may mean that he has done for the Fed and for America what he was born to do.  He blocked a second Great Depression from happening!  But it may also mean that it is time for him to go back to teaching college economics come January, because he is now showing few signs of being a natural leader and great executive at a time when that is what the Fed truly needs.  I’ll give you the details in a moment.  But first a bit of history.

Franklin Delano Roosevelt tried to gain power over the Fed in the Depression 1930’s.  He proposed adding the Treasury Secretary on the Federal Reserve Board and making him automatically vice chairman, instead of the New York Fed president.  Bear in mind that in those days the Fed chairman in Washington was seen as little more than a figurehead.  The real power in the Fed was then and had been since its founding the president of the New York Fed.  (That is the job that current Treasury boss Timothy Geithner held before moving to the Treasury.)  The idea of blending the Fed and the Treasury together was shot down at once by Congress… and FDR backed away.  In that time before television, members of Congress were then invariably highly qualified and well informed, rather than sometimes just being possessed of a nice-looking face and able to read speeches on a teleprompter written by staffers.  They knew that the Constitution gave full power over money to Congress and they denied the Administration, any Administration, any control whatsoever over the money supply.

The Constitution was written that way because the men who wrote it were intimately familiar with history, back through England to Rome and beyond.  They made the House of Representatives closer to the people by giving it two-year terms instead of four for the president and six for the Senate, whose members originally were chosen by state legislatures.  Congress had delegated some but not all of its power over money to the Fed when it created the so-called independent central bank.  Congress in 1913 made it plain that the Fed was fully under the control of Congress and would have to report to Congress on a regular basis.  When Paul Volcker was chairman of the Fed he used to taunt the members of Congress by telling them that if they did not like the way he was running their bank, they could fire him.  But then, he would say, of course you will not have me to blame any more and you will have to take the blame yourself when anything goes wrong.  They would turn away from him then and say no more.

Congress in 1913 had wanted to decentralize the so-called central bank, so it divided it into a dozen regional banks.  All of them were privately owned by banks in their district, and their boards of directors were set up in three classes to represent businesses and banks in each district.  The intention was that oil drillers would have a say in one district, cattlemen and meat packers in another, mining firms in a third, manufacturers in a fourth and so forth across America .  Their regional bank buildings were privately owned by these private banks and paid local real estate taxes.  The board members in Washington served 12-year terms, which were staggered.  They had to be from different districts.

The Fed was allowed to create money to buy Government bonds.  They kept enough interest to pay for their staff salaries etc. and paid much of the rest back to the Treasury voluntarily.  Today that payment from the Fed comes to billions of dollars a year.  This is why when the Fed largely financed World War II, FDR said we owed the money to ourselves.  Personally I think it is a better deal than we get from the Chinese communist government, which prints its own money to buy a trillion dollars worth of our Federal debt and gets big interest checks weekly.  It uses that money to undermine America in Asia, Latin America, Africa and Europe .

The money that the Fed loaned to banks and others during the recent emergency was the Federal Reserve’s own money, from its now-large reserves.  It did not come from taxpayers.  Each time a Congressmen makes a speech raving about the taxpayers paying for these loans I wince.  Their ignorance is disturbing, even frightening.  Yesterday when they hauled the Treasury Secretary before the Senate’s panel of financial “experts” (everything is relative and they are better than most of the rest when it comes to understanding money and banking) to discuss the president’s 88-page proposal of new laws concerning the Fed and the Treasury, I saw just how deep the ignorance now runs.  Most of the Senators asked questions about specific provisions of the proposed bill, mostly about a proposed vast increase in regulatory powers that should not even be in the Fed’s domain.

I watched coverage of this hearing on CNBC.  Larry Kudlow, an experienced senior member of their broadcasting staff whose Washington government experience prepared him to notice what I have been talking about here, commented on this central fact hidden away in the bill even before one lone Senator later nailed it to the wall.  That made a total of three of us who would instantly realize that this whole bill was filled with a lot of silly provisions designed to elicit comments from those in the media, from bankers and businessmen, from Senators and Congressmen… all to keep their eyes and their mind off the one lonely passage that in the FDR Administration shook the halls of Congress with anger and rage, until it was then dropped and forgotten.  One interesting note:  There was a break in coverage on the General Electric-owned TV network (CNBC), while a commercial was played.  When they came back, Kudlow was missing from the screen and had been replaced by a younger man, who was not interested in pushing Larry’s bull’s-eye-hitting criticism of the president’s bill.

Only one Senator brushed aside talk of the many new regulations the president was asking for.  He cut right to the central core of the matter.  He had only 5 minutes to speak and in that 5 minutes he called attention to what he said was clearly the heart and soul of this bill.  (And I agree with him!)  He correctly said that by forcing the Fed to get written approval from the Treasury Secretary when it loans money to a major bank, insurance company or other firm the bill in effect silently and secretly reduces the Fed from being a separate, non-Federal, largely private and de-centralized institution with a history running back to 1913 and turned it into a 100% controlled-by-the-president subordinate department of the U.S. Treasury, just another Federal agency.

Ninety-six years of history would be wiped from the slate if this bill passes as is.  Yet during hours of questions and answers before the Senate yesterday morning only the one Senator recognized what you just read here and as I mentioned he protested vigorously.  No other Senator followed up to protest or even comment.  That is probably because their questions are written down in advance for them by staffers and they are not equipped to seize a fresh idea and expand on it.  What’s more, from what I heard there are no Congressmen upset about this revolutionary passage in an 88 page bill.  And believe me this is revolutionary!  They are led by Barney Frank, who helped to cause the crash in banking and is now trying to cover his own failures up by shifting all blame to the Ben Bernanke and Fed.

But now I am going to tell you what really upset me yesterday.  Apparently the one man who has the intense historical knowledge of the Fed, of the FDR Administration, of the Great Depression and of the long history of imperial, royal, dictatorial and presidential misuses of government monies when they got their fingers wrapped around its control – and I mean of course the chairman of the Federal Reserve – did not so much as open his mouth and offer a whimper in protest at this provision.  Indeed we were told that when he loaned billions of dollars to AIG he had approached the Treasury boss and asked him to write his approval down on paper and sign it, before he sent money to AIG.  I can understand why Ben Bernanke would do that in the highly politicized environment of Washington .  But there is a gap as wide as the Mississippi River between the chairman doing that on his own privately and the proposed new law requiring him to do it.  And he should be shouting that fact to anyone who will listen, especially to Congress.

Now the president has said since the Fed chairman asked for that signed paper one time, lets make it official and require him to get such approval in writing from the Treasury boss every time he or any Fed chairman (and the man who hungers for the job is hovering at the president’s elbow each day) wants to make such a loan.  I have no doubt that Larry Summers has told the president he will defer to him in each instance, in effect putting the president in charge of the Fed when it really counts.  (For what it’s worth, there are more than a dozen women of both Parties in the Senate, and I cannot imagine them voting to confirm Summers as Fed Chairman, after he was fired as president of Harvard University for suggesting that women professors are really not smart enough to be professors.  Of course, he regards himself as the smartest man in America and he probably does not think that men are smart enough to be professors either, so that would mean he also looks down on Ben Bernanke.)

This would put the president himself where the Founding Fathers and several generations of Congressmen made sure no president, not even Franklin Delano Roosevelt, would be allowed to go.  If the current Fed chairman does not see the importance of saying no to this, then he should forget about another term at the helm of the Federal Reserve and go back to teaching at an Ivy League college.  He has done a great service to his country until now, and if this bill is passed as written and put into effect with a passive, mild leader sitting at the desk of the chairman of the Fed, America will be turned away from its heritage and inched down a road toward dictatorship where all of history says the Congress itself will be reduced to a shadow of its former self.  If you doubt me, take a good look at what the socialist dictator of Venezuela has already accomplished and what he intends to do in the next year.

Adrian Van Eck

Van Eck-Tillman Advisories

Don’t Call The Fed Independent

Posted by Larry Doyle on June 17th, 2009 3:04 PM |

An independent Federal Reserve Bank has been one of the cornerstones of free market capitalism. In my opinion, those days are over. Politicians, central bankers, and financial titans would certainly dispute this statement; the simple fact of the matter is the Fed has not been an independent entity for a long time. That lack of independence is now further exposed. President Obama’s plan to designate the Fed as the uber-regulator for our financial system solidifies it.

The need for an independent central bank has always been viewed as critical to the workings of our markets. The Federal Reserve itself promotes this independence:

Who owns the Federal Reserve?

The Federal Reserve System is not “owned” by anyone and is not a private, profit-making institution. Instead, it is an independent entity within the government, having both public purposes and private aspects.

As the nation’s central bank, the Federal Reserve derives its authority from the U.S. Congress. It is considered an independent central bank because its decisions do not have to be ratified by the President or anyone else in the executive or legislative branch of government, it does not receive funding appropriated by Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms. However, the Federal Reserve is subject to oversight by Congress, which periodically reviews its activities and can alter its responsibilities by statute. Also, the Federal Reserve must work within the framework of the overall objectives of economic and financial policy established by the government. Therefore, the Federal Reserve can be more accurately described as “independent within the government.”

The market has traditionally viewed the workings of the Fed as being above the fray. In years past, that independence was critiqued as being almost secretive. The Fed heard those criticisms and has tried to be more transparent while still independent.

In my opinion, the Fed can no longer lay claim to being an independent entity. In fact, the more I see and hear of the Fed recently, it has not been an independent entity for a protracted period. When did the Fed begin to lose its independence? Under Alan Greenspan during the late ’90s, if not before.

While Greenspan was the chair of the Fed, he was enormously well respected. In hindsight, he was not near the star we thought and history will not treat him kindly.

Greenspan politicized the Fed more than we ever knew. He curried favor with the Clinton administration and was heavily involved in keeping the derivatives market unregulated. Until now. (more…)

The All Powerful Federal Reserve: Part II

Posted by Larry Doyle on June 12th, 2009 12:19 PM |

Is the All Powerful Federal Reserve omniscient, omnipotent, and omnipresent? Any institution that purports to be transparent but ultimately clouds itself in a shroud of “financial intrigue” deserves serious questioning. Congressional efforts on this front regularly fall woefully short. With a few exceptions, serious media analysis of the Fed is also deficient. Fortunately, the Wall Street Journal provides a reasonable overview of recent Fed maneuvers, Fed to Keep Lid on Bond Buys. Let’s navigate the inner workings of the Fed and play devil’s advocate in the process.

The WSJ highlights:

Fed officials have become more confident recently that they have stabilized the economy and set the stage for recovery. But divisions are brewing within the Fed over whether it should do more to speed the healing, pause, or start pulling back to avoid an outbreak of inflation.

Those crosscurrents are likely to inhibit bold new strokes by the Fed at its next meeting, in contrast to earlier in the year, when a bleak outlook spurred aggressive action.

At long last, a hint of sanity on the inflation front emanates from within the hallowed halls of the kingdom of the Federal Reserve.

Please recall that when the Fed announced its increased level of aggressive quantitative easing, the 10 yr Treasury rallied 50 basis points from a 3.1% to a 2.6% in one day. That sort of move is unprecedented. The 10yr, even with the Fed’s support, has since retraced 1.2% in the last three months. Where would the 10yr Treasury be without Fed support? 4%, 4.25%, 4.5%? Who could estimate for sure? (more…)

The All Powerful Federal Reserve

Posted by Larry Doyle on June 12th, 2009 8:10 AM |

What would our founding fathers think about the omnipotence of the Federal Reserve?

Is there any doubt that the true greatness of our Constitution is found in the balance of power amongst the executive, legislative, and judicial branches. Where in that mix is the power centered in the financial branch? Who controls the financial branch? Welcome to the kingdom of the Federal Reserve.

To whom does the Fed answer? How transparent is the Fed? Can the Fed be too powerful? Is the Fed “too big to fail?” How skilled is the Fed? Is it infallible? Does the Fed get involved in our political process? So many questions. Such limited clarity.

As our Brave New World of the Uncle Sam Economy evolves, the Fed has never been more influential in our economic and political process. Is the Fed too powerful? Let’s navigate the landscape of the Fed and see what we learn.

Rather than my regurgitating answers to frequently asked questions of the Fed, please allow me to link to the Fed’s own site for these “frequently asked questions.

Let’s dig deeper. I want to specifically address, two specific aspects which fall under, What are the Federal Reserve’s responsibilities?

-supervising and regulating banking institutions to ensure the safety and soundness of the nation’s banking and financial system and to protect the credit rights of consumers

-maintaining the stability of the financial system and containing systemic risk that may arise in financial markets

Looking back over the course of the last ten years, how could any self-respecting central banker, politician, financial executive, market analyst, or financial blogger give the Fed anything other than a failing grade in these realms. Does that failing grade deserve to be assigned more to former Fed chair Alan Greenspan than Ben Bernanke? Perhaps, but the Fed as a whole failed miserably on these critically important initiatives.

As we move forward on our economic landscape, how will our “political leaders” within the executive and legislative branches address the allocation of responsibilities within the financial system? (more…)

Bernanke Conundrum

Posted by Larry Doyle on June 8th, 2009 7:27 AM |

Overnight markets indicate that Treasury prices are lower and interest rates subsequently higher (remember the inverse relationship between bond prices and interest rates). 2yr Treasury notes are trading at 1.33% and 10yr Treasury notes are trading at 3.85% (both are .03% higher from Friday’s close).

If interest rates are higher, clearly that move must be an indication that economic activity is improving and equity markets should be higher overnight, correct? In “normal” economic times, perhaps that line of reasoning would hold water, but in the Uncle Sam economy, we need to go deeper.

Equity futures indicate our stock markets will open lower by approximately 1%. What’s going on? Welcome to the Bernanke conundrum! What is the riddle wrapped inside our economic enigma? How can Fed chair Ben Bernanke nurse our economy back to health while at the same time maintaining the necessary fiscal independence, integrity, and discipline of robust Fed policy?

Big Ben has used aggressive measures to backstop a wide swath of our markets. In the process, he has created a fair amount of stability but with an effective government guarantee “insurance” policy as the cost of stability. Some of these policies have lessened in size as certain sectors have normalized. However, the major Fed programs remain in place. What are these?

1. quantitative easing: commitment to buy $1.3 trillion in total of Treasury and mortgage-backed securities in an attempt to keep these rates down. Then why are rates rising? More on this in a second.

2. commitment to provide necessary liquidity as needed to support the “wards of the state” including Freddie Mac, Fannie Mae, GM, AIG, Citigroup.

These programs in conjunction with the massive deficit spending programs undertaken by the Obama administration have ballooned our expected funding needs in calendar 2009 to upwards of $3 trillion, a fourfold increase over prior years.

In my opinion, interest rates are moving up much less on any real signs of economic improvement than on these funding needs and very real signs of a monetary printing press malfunction. What’s that? With the Fed Funds rate at 0-.25%, the Fed is literally flooding the economy with cash. Where is that cash going? Is it flowing through to the economy? Not really.

The cash is pouring into the banking system to cushion and support financial institutions from the ongoing losses connected to rising defaults on credit cards, residential mortgages, commercial real estate, and corporate loans.

The market is now very clearly sending a signal to Bernanke, Geithner, Obama and team that if they want to continue their programs as designed (and they do and will), the price, that is the rate of interest, is going up. Why?

The market is very concerned that the flood of liquidity will lead to inflation if not rampant inflation and potentially hyperinflation. How does Bernanke head that off?

Withdraw the very liquidity that he has found so necessary to pour into the financial system. How does he do that?Two ways.

1. increase the Fed Funds rate: that is, make borrowing more expensive.

2. reverse the quantitative easing program so that the Fed actually sells Treasury and mortgage-backed securities into the market and takes liquidity out in the process. What are the impacts of both those maneuvers? Higher interest rates.

In fact, interest rates are moving higher already in anticipation of Bernanke being forced to make these moves. Can Bernanke “thread this needle?” What will happen if interest rates move higher?

Slow the economy, especially housing given higher mortgage rates, and lower earnings especially for financial institutions. To wit, our equity markets are lower overnight.

Nobody said this was going to be easy.

LD

Review of the Federal Reserve’s Minutes: ‘Where Are Those Green Shoots?’

Posted by Larry Doyle on May 20th, 2009 8:00 PM |

The Fed released the minutes from their April 28-29 meeting. Let’s dive right in straight from the Fed’s own website. Minutes of the Federal Open Market Committee:

Almost all participants viewed the near-term outlook for economic activity as having weakened relative to the projections they made at the time of the January FOMC meeting, but they continued to expect a recovery in sales and production to begin during the second half of 2009. With the strong adverse forces that have been acting on the economy likely to abate only slowly, participants generally expected a gradual recovery: All anticipated that unemployment, though declining in coming years, would remain well above its longer-run sustainable rate at the end of 2011; most indicated they expected the economy to take five or six years to converge to a longer-run path characterized by a sustainable rate of output growth and by rates of unemployment and inflation consistent with the Federal Reserve’s dual objectives, but several said full convergence would take longer.

Call me cynical, but where are the ‘green shoots’ in that review? In my opinion, this review is akin to a CYA analysis, as in things are going to get worse before they get better . . . I hope.

By every measure, the Fed governors are revising their calls on unemployment, output, and inflation to worsen in 2009 relative to their call in January. Were they merely being overly optimistic in January? Perhaps these minutes are similar to the regular revisions provided each and every month depicting the economy to be in tougher shape than previously advertised.

I did find it very interesting to see the assessment targeting a 5 to 6 year time horizon–and perhaps longer–for the economy to regain the trajectory consistent with Fed objectives.

Given that these minutes are aggregated in a closed door session, they may actually more accurately embody a sense of veracity and integrity. How ’bout that!!

How did the equity market respond to these minutes? The DJIA reversed course from being up 100+ points in the morning to close down 52 points.

LD






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