Bernanke’s Press Conference: Some Responses
“We Don’t Control Emerging Markets”
by John Rubino
April 27, 2011
“Keeping inflation low and boosting the economy are good for the dollar over the medium-term.”
Well, duh. But talking about controlling inflation while interest rates are at record low levels and commodities are soaring is pointless. Eventually energy and food prices will work their way through to restaurant menus and store shelves (see McDonalds and Huggies) and then inflation won’t be low — even by the government’s deceptive accounting. That won’t be good for the dollar.
“There’s not much the Fed can do about gas prices per se. After all the Fed can’t create more oil. We don’t control emerging markets. What we can do is try to keep higher gas prices from passing into other prices, creating a broader inflation. Our view is that gas prices will not continue to rise at the recent pace.”
The Fed might not control emerging markets but it does affect them. We’re exporting our inflation to them by supporting US consumer borrowing and keeping interest rates low, which creates a torrent of hot money flowing into Brazil, China and India. That’s why they’re overheating.
Put another way, they’re paying the price for our lack of self-control. China is raising rates and Brazil is at 12% already, which means they’re looking at a combination of slower growth and continued high prices. This is a huge problem for countries where many workers spend most of their paychecks on food and energy.
“The inflationary expectations we’re concerned about are long-term. Our anticipation is that oil prices will stabilize or come down. If firms aren’t passing on higher costs into broader prices, broader inflation, then we’ll feel more comfortable watching and waiting to see how it evolves… Long-term expectations are still stable. We’re confident they’ll stay down.”
Letting inflation run and hoping it doesn’t persist is extraordinarily dangerous, because by the time people figure out that it is going to persist you won’t be able to quickly change their minds. They’ll be dumping their bonds and buying real assets like gold and silver and farmland, sending the dollar down and interest rates up. Then you’ll have to spend years convincing them that they’re wrong by raising short-term rates and engineering a recession. And that’s the optimistic scenario. A recession with home prices already falling and systemic debt at record levels would risk a return to the mid-1930s, when a brief recovery turned into the Great Depression.
“We’re completing purchases by July. It probably won’t have significant impact on markets or the economy because the market already knows that. It’s not the pace of ongoing purchase that matters, but the size of the portfolio we hold. We’ll continue to reinvest, so our portfolio size will remain constant. Any changes to portfolio size would depend on pace of economic recovery.”
What he’s saying is that the Fed will continue to buy up Treasuries and other kinds of debt with the proceeds of its maturing bonds. This is a massive amount of money, hundreds of billions a year, so in effect QE 2 won’t really end.
“All I can say is, recovery is moderate, but I do think the pace will pick up over time. Over the long run, the US will return to being the most productive and dynamic economy in the world. It hasn’t lost any of its basic characteristics.”
Unfortunately the US has lost one of its most basic characteristics: a solid balance sheet. We’re effectively bankrupt, and the resulting loss of flexibility and access to capital will fundamentally change this country in the future. A few pockets of innovation won’t be able to bail out an insolvent majority.
“We’re using new tools, but nothing we’re doing is fundamentally different from what we normally do. We’re monitoring inflation as well as recovery. The problem is the same one central banks always face — which is tightening at the right time of a recovery. But we have a lot of experience with how to do this, and we’ll tighten as conditions warrant.”
Let’s consider that experience…the junk bond bubble of the 1980s, the tech bubble of the 1990s, the housing bubble, and now this, whatever it is. Not reassuring.
Why Bernanke’s next move doesn’t matter
from Phoenix Capital Research
April 27, 2011
THE FINANCIAL WORLD IS SITTING ON THE EDGE of its seat today to see just what Ben Bernanke has to say about inflation. It’s odd that a man with just a horrific track record, not to mention the fact his policies have resulted in tens of thousands of people starving or being killed in riots, should be the focus of the entire financial system.
After all, why should we listen to a pathological liar and idiot, not to mention a man void of morals or compassion? Regardless or Bernanke’s personal qualities, the fact is that it doesn’t matter what he does next. Whether or not he issues QE 3, raises interest rates, references inflation differently, or what have you is irrelevant. We will see some kind of Crisis in the near future because of his policies.
If he raises interest rates, the debt market and derivative implodes. If he launches QE 3, the Dollar collapses and trade wars erupt. If he doesn’t launch QE 3, the stock market collapses.
The idea of “success” is completely off the table at this point. It’s now simply a matter of which Crisis we will see. Even if Bernanke does become hawkish and defends the Dollar, the US’s debt load is beyond sustainable levels and will result in a debt default.
Again, there is no positive outcome from the current financial situation. The only good thing that will come out of the destruction will be the Fed being dismantled and Bernanke no longer in control (though this may take years before it’s complete). One thing that is now certain however, is that the US Dollar will be collapsing in the future. It might take two months (Bernanke indicates QE 3 is coming) or two years (Bernanke becomes more hawkish), but it will happen.
Fed-up with the Fed
by Peter Tchir
of TF Market Advisors
April 26, 2011
SO HERE WE ARE FINALLY, AT THE BIG DAY. We get the first press conference from the most important man in America. Before you gag on the claim that he is the most important person, can you name one other person who has so much power coupled with the ability to act virtually unilaterally? It’s not so much what he can do, print money, change rates, print money, change reserve requirements, print money, that makes him so powerful, it’s that basically anything that he wants to do becomes policy.
Ahead of the Fed there are two interesting moves in the market that bear watching. Treasuries rallied strongly into the close yesterday, but have given back a lot of the late day gains already. The other more interesting phenomena is what is happening to Greek, Irish, and Portuguese spreads. The bonds are blowing out, as much as 80 bps for Greek 10 year debt, but the CDS is actually tighter. This divergence may be a result of the bonds starting to trade at recovery levels, so investors don’t want the hedges, or an indication of yet another expected bailout, but it is worth watching as the divergence is quite large.
So, now to the Fed.
I remain convinced that the Fed will continue to re-invest proceeds from pre-payments and redemptions. If they don’t do this the market will be caught off guard as no one expects them to contract their balance sheet. I continue to believe they will signal their intention to use the money to purchase bonds further out the curve as they try to re-link their purchases
to the mortgage market rather than the Russell 2000. So the re-investment policy is unlikely to provide any upside, maybe a touch of curve flattening, and any indication that they will not re-invest will surprise the market to the downside.
QE3 and Extended Period
I now believe that they will NOT implement QE3. The data has been too strong to easily justify QE3. They also need to argue that QE2 has been successful. That argument is greatly diminished if they say that QE2 was a great success, but not so great that we immediately need QE3. To temper any disappointment, the Fed will make sure they are prepared to step in any time we need, and at any sign weakness, they will be able to rush in QE3. This should mollify the news of no QE3, but I expect the market will react slightly negatively to this because although most people say they don’t expect QE3, it feels like they are positioned as though there is a chance. The more cynical people in the market may even choose to believe the Fed was pressured by the government and PIMCO into dropping QE3. This would put further pressure on the market if the belief that QE3 won’t be easy to implement becomes more widespread.
There is a slim chance, that the Fed will hint at tightening. At the very least I expect they will remove the extended period language from their accommodative policy line. This would definitely catch the market unprepared and would see a sell off if near term rate hikes are implied.
So any statement regarding QE3 and future interest rate policy is likely to be negative for the market, though again I see most scenarios leading to a flattening of the curve.
The Economic Outlook
I expect little surprise from this. The Fed will say signs of strength, firmer footing, sustained, but throw in a couple caveats that some data has been less robust of late and jobs continue to be more difficult to create than hoped for. Some of the outlook will be based on information not available to the public, but most of the data is already out there. Their outlook will be structured to make themselves look good. They will mention how much better things are so that they can claim success with QE2. The small negatives will be included so that they can seem compassionate about jobs (some consultant told them it would be a good idea to pretend to be sympathetic to the jobless) and to create wiggle room so they can continue to experiment with alternative methods and to keep more QE on the table. Hard to see how they say much in their outlook that is surprising. If anything, maybe they will paint a more rosy picture than people are expecting. Any rally on that should be faded, as people realize it is more spin than reality.
Now we get to the interesting part of the day. I see three distinct outcomes from this session.
Do I look fat in this dress? (60% likelihood)
In this scenario, the Chairman fields mostly softball questions. Questioners will ask seemingly difficult questions, but where there is really only one answer. The questions will let the Chairman talk about all that is going well – stock market. He can defend what is not going well – signs of inflation are merely temporary and jobs are turning the corner. He can re-assure the public that he has the tools in his power to ensure we never have another crisis. He can say that he is on guard for signs of weakness and prepared to react. So long as he comes across as dovish and willing to focus on supporting stocks at any sign of weakness, then the market will react positively. In theory, this is nothing new, but just as saying ‘you don’t look fat in that dress’ always creates some good will, this line of relatively dull questions followed by trite answers will lead to rally in stocks.
Should I send the wine back? (30% likelihood)
Have you ever ordered a reasonably expensive bottle of wine that doesn’t taste quite right? Not so bad that its clearly vinegar, just bad enough that you aren’t sure if its corked, but not good enough that you really regret having spent the money on it? Well, most of us will stick with the bottle, feel bad about the purchase, tell the waiter its okay, and regret the decision, but not really do anything about it. Well, in this scenario, the reporters delve into performance of the dollar and signs of inflation post the start of QE2. It gets a little contentious. We are forced to digest the argument that oil inflation is deflationary, we don’t really get good answers, but the tone remains civil and in the end the market does nothing. The experience will plant some seeds of doubt in the Fed for many who fully backed it and its policies, but this will play out over the longer term and have no immediate impact.
The man behind the curtain? (10% likelihood)
Just like in the Wizard of OZ when the curtain comes down and the myth is debunked, in this scenario the market becomes extremely concerned with the man pulling the levers. Occasionally during his congressional testimony, the Chairman has become surly, condescending, and almost antagonistic. He gets away with it, in part, because the questions he is forced to answer are often bordering on asinine. If reporters hound him on dollar weakness, inflation, and jobs, will he become surly? Will he be belligerent? I think the reporters will need to press hard to get this reaction, and are unlikely to be given the opportunity, but if he does get pushed on these very real issues, there is a chance we see a ‘you can’t handle the truth’ moment. If he can get pushed to that edge where it becomes clear that in reality he too is scared about inflation or is manipulating the dollar we would see a crisis of confidence and a sell off across stocks and treasuries. Unlikely to get there, not because it’s the truth, but because the format of the conference won’t let any hot button issue get pushed hard enough.
No QE3, Right? – So why did the USD just hit a new cyclical low?
Citi explains why
by Tyler Durden
April 27, 2011
If you are confused why at one point every word the Chairman said was the equivalent of one pip lower for the DXY and 10 cents higher for gold, wonder no more. Here is Citi’s Steven Englander asking, and explaining why the USD just hit a new cyclical low.
Steven Englander: Asset markets pretty much liked the FOMC statement and really liked the press conference, but that’s not the same thing as liking the USD. Consider the chart below — the blue line shows the tick-by-tick drop in DXY (the dollar index) from noon to 4PM New York time, encompassing the FOMC statement and the press conference. The red line is the S&P and the green line is the two year yield. The question is what surprised the market to such a degree that the USD basically hit new cyclical lows.
1) the Fed comfort zone with how core inflation is evolving — investors may have been looking for an upgrading of the degree of inflation concern that did not emerge either in the statement or in the press conference comments — neither emerged
2) the dismissal of USD weakness as a factor driving commodity prices – echoing a speech by Fed Vice-Chairman Yellen a few weeks ago; rapid growth in EM economies was viewed as the major factor in commodity price strength
3) the comments on a strong dollar policy were treated pretty much as pro forma relative to the view that a stronger US economy is a prerequisite to a stronger USD in the medium – a view that embraces USD weakness in the near-term – “The second thing we are trying to accomplish is get a stronger recovery and achieve maximum employment. Again, a strong economy attracting foreign capital will be good for the dollar.”
4) reference to the success of QE2 — in particular to the gains in stock and credit prices as the measure of the success of QE2 – by implication a weaker USD is an unindicted co-conspirator in that success
5) the emphasis on the measure of Fed ease being the stock of assets owned rather than the flow – by implication the end of QE2 would be the end of additional easing but not the beginning of tightening – the implication for the FX market is that a backing up of asset prices at the end of QE2 would be unwelcome.
6) given the success claimed for QE2, the conclusion “we’ve taken our forecast down just a bit, taking into account factors like weaker construction and possibly just a bit less momentum in the economy” seems very tepid.
It is not clear how much of these comments should have been viewed as a surprise and certainly whether they merit taking the EUR and AUD among other currencies to new cyclical highs. At a minimum they reinforced the view that any shift in policy was happening slowly and is still heavily contingent on economic outcomes. From the perspective of markets there is little to discourage flows into EM and the ongoing reserves diversification needs that have steadily weakened USD with G10 as well as versus EM.
The USD moves reinforce a story that is well known and widely priced in. It is clearly the path of least resistance at the moment, but also is increasingly contingent on ongoing global growth and asset market strength. The Fed did nothing to discourage that thinking, but at a certain point the distinction between USD weakness and asset market strength may become more clear than it is now.