“Shock and awe” is not quite what it used to be. It still carries a punch, especially for traders long the Japanese yen or short EM and stocks. The yen surged 2% against the dollar (more vs. EM) Friday on the Bank of Japan’s (BOJ) surprising move to negative interest rates. BOJ Governor Haruhiko Kuroda has a penchant for startling the markets. Less than two weeks ago he stated that the BOJ was not considering adopting negative rates. It wasn’t all that long ago that central bankers treasured credibility.
For seven years, I’ve viewed global rate policies akin to John Law’s (1720 France) desperate move to hold his faltering paper money and Credit scheme (Mississippi Bubble period) together by devaluing competing hard currencies (zero and now negative rates devalue “money”). It somewhat delayed the devastating day of reckoning. Postponement made it better for a fortunate few and a lot worse for everyone else.
Last week saw dovish crisis management vociferation from the ECB’s Draghi. Now the BOJ adopts a crisis management stance. The week also had talk of some deal to reduce global crude supply. Meanwhile, the Bank of China injected a weekly record $105 billion of new liquidity. Nonetheless, the Shanghai Composite sank 6.1% to a 13-month low. There was desperation in the air – along with a heck of a short squeeze and general market mayhem.
Markets these days have every reason to question the efficacy of global monetary management. It’s certainly reasonable to be skeptical of OPEC – too many producers desperate for liquidity. The Chinese are flailing – conspicuously. As for the BOJ’s move, it does confirm the gravity of global financial instability. It as well supports the view that, even within the central bank community, confidence in the benefits of QE has waned.
After three years of unthinkable BOJ government debt purchases, Japanese inflation expectations have receded and the economy has weakened. Lowering rates slightly to negative 10 bps (for new reserve deposits) passed by a slim five to four vote margin. With the historic global QE experiment having badly strayed from expectations, there is today no consensus as to what to try next.
Kuroda remains keenly focused on the yen. After orchestrating a major currency devaluation, there now seems little tolerance for even a modest rally. The popular consensus view sees BOJ policymaking through the perspective of competitive currency devaluation, with the objectives of bolstering exports and countering deflationary forces. I suspect Kuroda’s (fresh from Davos) current yen fixation is more out of fear that a strengthening Japanese currency risks spurring unwinds of myriad variations of yen “carry trades” (short/borrowing in yen to finance higher-yielding securities globally) – de-leveraging that is in the process of wreaking havoc on global securities markets. Continue reading
An Imaginary Bogeyman
What’s a Keynesian monetary quack to do when the economy and markets fail to remain “on message” within a few weeks of grandiose declarations that this time, printing truckloads of money has somehow “worked”, in defiance of centuries of experience, and in blatant violation of sound theory?
In the weeks since the largely meaningless December rate hike, numerous armchair central planners, many of whom seem to be pining for even more monetary insanity than the actual planners, have begun to berate the Fed for inadvertently summoning that great bugaboo of modern-day money cranks, the “ghost of 1937”.
The bugaboo of Keynesian money cranks – the ghost of 1937.
As the story goes, the fact that the FDR administration’s run-away deficit declined a bit, combined with a small hike in reserve requirements by the Fed “caused” the “depression-within-the-depression” of 1937-1938, which saw the stock market plunging by more than 50% and unemployment soaring back to levels close to the peaks seen in 1932-33.
This is of course balderdash. If anything, it demonstrates that the data of economic history are by themselves useless in determining cause and effect in economics. It is fairly easy to find historical periods in which deficit spending declined a great deal more than in 1937 and a much tighter monetary policy was implemented, to no ill effect whatsoever. If one believes the widely accepted account of the reasons for the 1937 bust, how does one explain these seeming “aberrations”?
The DJIA in 1937 (eventually, an even lower low was made in 1938, see also next chart) – click to enlarge. Continue reading
The fast money and robo-machines keep trying to ignite stock rallies, but they all fizzle because bad karma is beginning to infect the casino. That is, apprehension is growing among whatever adults are left on Wall Street that 84 months of ZIRP and $3.5 trillion of Fed balance sheet expansion, aka money printing, didn’t do the trick.
Not only is the specter of recession growing more visible, but it is also attached to a truth that cannot be gainsaid. Namely, having stranded itself at the zero bound for an entire business cycle, the Fed is bereft of dry powder. Its only available tools are a massive new round of QE and negative interest rates.
But these are absolutely non-starters. The former would provoke riots in the financial markets because it would be an admission of total failure; and the latter would provoke a riot in the American body politic because the Fed’s seven year war on savers and retirees has already generated electoral revulsion. Bernie and The Donald are not expressions of public confidence in the economic status quo.
So the dip buying brigades have been reduced to reading the tea leaves for signs that the Fed’s four in store for 2016 are no more. Yet even if the prospect of delayed rate hikes is good for a 50-handle face ripping rally on the S&P 500 index from time to time, here’s what it can’t do. The Fed’s last card—-deferring one or more of the tiny interest rate increases scheduled for this year——cannot stop the on-coming recession.
And it is surely coming. We got one more powerful indicator on that score in this morning’s data on core capital goods orders (i.e. nondefense excluding aircraft). Not only were they down sharply from last month, but at $65.9 billion were down 11% from the September 2014 peak, and are also now below the prior cyclical peaks in early 2008 and 2001.
In fact, core CapEx orders in December were at a level first reported in April 2000, and that’s in nominal dollars. In real terms, they are down nearly 25%.
The simple fact of the matter is that gold is no longer money and hasn’t been treated that way in decades. It is a frustrating and often woeful outcome, but deference isn’t a reason to color judgement. As an investment, which is more like what gold has become, it isn’t all that straight, either. Gold behaves in many circumstances erratically; often violently so. In 2008, gold crashed three times; but it also came back (and then some) three times. The metal remains stuck in some orthodox limbo of duality, sometimes acting an investment while at others, more rarely, as almost reclaiming its former status.
The junction of that dyad format is wholesale collateral. It is a difficult and dense topic because it plumbs the very depths of the wholesale arrangement – factors like leasing, swaps and collateralized lending through binary bespoke arrangements. It is there that I think it helps to form the narrative, however, starting by reviewing what the BIS was up to in late 2009 and early 2010. I am going to borrow heavily from an article I wrote in April 2013 that describes the events in question but this is one of those times when you should read the whole thing.
Back in July 2010, the Wall Street Journal caused some commotion when it happened to notice in the annual report for the Bank for International Settlements the sudden appearance of gold swap operations to the tune of 346 tons. Subsequent investigation by media outlets, including the Financial Times, reported that the BIS had indeed swapped in 346 tons of gold holdings from ten European commercial banks. That was highly unusual in that gold swaps are typically conducted between and among central banks.
Included in that list of commercial banks were, according to the Financial Times, HSBC, BNP Paribas and Société Générale. The timing of the swaps was pinned down to sometime between December 2009 and January 2010 – just as the world was getting reacquainted with the Greek Republic.
In other words, “dollar” problems had been reborn despite QE1 and ZIRP (and the follow-on programs at the ECB, SNB and elsewhere) because European banks, in particular, had swapped “toxic” MBS collateral for “toxic” PIIGS sovereigns. Now, like MBS before it, even government bonds were becoming non-negotiable in repo (haircuts) and derivative collateral. Stuck not long after the last crisis, banks were in a tight spot since no central bank appeared ready to commit to another great effort so soon risking what they found a fragile but fruitful early revival. Banks then turned to the BIS in what only can be interpreted as great desperation for survivorship. Continue reading