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The minutes of the FOMC’s March meeting make clear just how hard it is for
the Fed to even think about the possibility of unwinding what they’ve
wrought. After six-plus years of interest-rate repression, absurdity has
become the established norm. Now they can’t even figure out how to
get out of it without bringing down the whole construct.
They handed the fruits of their monetary policies to folks who bought
assets with them. Assets values have skyrocketed, yields have plunged, and
risks have disappeared from the calculus. You can still get run over by a
car, but you can’t lose money in stocks or junk bonds. That’s the established
norm.
This stream of money created asset price inflation and funded the
fracking boom, the tech bubble, and a million other things that produced a
lot of supply. But demand remained lackluster because they didn’t hand this
moolah to the folks who’d spend it on gadgets or food or gasoline, the folks
who’d actually create demand. The economy languished, and consumer price
inflation, though bad enough for consumers, remained mostly below the
money printers’ lofty goals.
Now the Fed is trying to figure out how to unscramble the
omelet. Meanwhile the ECB and other central banks are adding to it,
accomplishing an absurd feat: even the crappiest sovereign bonds – except
those of Greece – are soaring, and yields are plunging, many of them into the
negative.
Then on Wednesday, a new thing happened: Switzerland sold 10-year
government debt at a negative yield. They’d been selling debt at negative
yields for a while, but with a 10-year maturity. No country had.
The little country with piles of money is defending itself against the influx
of euros by repressing interest rates and making it in theory unpalatable to
hold Swiss francs. But it isn’t working. What dreadful thoughts are rumbling
through the heads of these investors that would scare them into lending their
money to the Swiss government for ten years, not to earn a fair return, but
for safekeeping apparently, and they’re even willing to pay for it!
Germany’s 10-year debt is following closely behind, yielding a still
positive but practically invisible 0.15%. About €1.8 trillion in
Eurozone sovereign bonds entice “investors” – if you can call them
that – with negative yields, which now includes Spanish 6-month T-bills.
These inflated debt prices are great for borrowers. They’re flocking to
Europe to sell debt to investors desperate to escape the negative yield trap
laid out for them by Mario Draghi. Junk-rated corporate America caught on to
it in no time [read… Dumping
American Junk in Europe, Draghi Asked for it].
And Mexico, which had its share of debt crises by borrowing in foreign
currencies, got wind of it. It is now hawking 100-year euro bonds to
these desperate investors, enticing them with a yield of about 4.5%. “Pretty
attractive,” is what Marco Oviedo, chief economist for Mexico at Barclays, called
them. He expects healthy demand. An awesome deal in a risk-free
environment.
Years of promised QE, actual QE, near-zero or negative interest rates, and
the idée fixe that these conditions are permanent have sent asset
prices soaring. Many, like German stocks, are disappearing from view.
Same in Japan, where the Bank of Japan just voted 8-1 to push QE at full
tilt. It’s buying every Japanese Government Bond that isn’t nailed down. It’s
buying J-REITs and equity ETFs every time the market dips to make it head the
other way. Absurdities are playing out with increasing intensity. The JGB
market has dried up under the BOJ’s relentless bid. And even conservative
pension funds are dumping JGBs into the lap of the BOJ to buy equities at
inflated prices.
And inflated they are: the Nikkei is up 135% in three years though the economy
has languished. Real household incomes have been whittled down by a bout of
inflation and a sales tax increase. The Olympics are coming, real estate
values are soaring in Tokyo and some other places as foreign buyers and
developers are pouring in, armed to the teeth with cheaply borrowed money,
even as the hollowed-out middle class gets to hold the bag.
Oh, and Chinese stocks! Shanghai’s SSE Composite Index has nearly doubled
in 12 months.
Absurd monetary policies are easy to start, the announcements are fun, and
the market rallies they engender are vertigo-inducing. Central bankers look
like heroes, as if they’d single-handedly saved the economy or something. Now
there are financial bubbles everywhere. Mega-fortunes are tied up in
them. And home prices have soared.
Unlike financial assets, homes are something people need. When prices get
to the point where only free money makes ownership possible for the middle
class, and when even rents become unaffordable for many people – then there
are some serious problems in the main-street economy.
But how the heck do you stop this madness before something BIG breaks? How
do you get out of it without bringing down the whole construct? You’d think
that six-plus years of these policies would have given central bankers enough
time to figure it out. But no.
The Fed doesn’t know how, according to the minutes
from the March FOMC meeting. To its credit, it’s at least discussing it. But
it doesn’t even know how to raise interest rates, now that the huge
balances of excess reserves the banks keep at the Fed render the traditional
way ineffective.
So they’re playing with novel mechanisms. But they might pose “risks to
financial stability” – market swoons, in Fed speak. One of these
mechanisms would be to sell some assets that mature in a relatively short
time. A minor move, a total no-brainer, you’d think. But even the mere
announcement, according to the minutes, “would risk an outsized market
reaction….”
The “public” – the speculators the Fed has been feeding with free money –
might see this as a “signal of a tighter overall stance of monetary policy
than they had anticipated.” And it could make this whole construct come
unglued. The mere announcement of such a minor move!
At least, FOMC members are discussing an exit, even if they have no clue
how to get the financial markets through it in one piece. Other central banks
are now focused on getting even deeper into it. They don’t have time to contemplate
what comes after. And none of them have a plan for the moment something BIG
malfunctions as a result of their absurd policies.
The ECB and other European banking regulators slept through it. But the
competition folks at the European Commission have gotten wind of it. And they
have real teeth. Read… This
Could Sink Banks in Greece, Portugal, Spain, and Italy
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