The Market Ticker posed some interesting questions today:
1. Can the Fed's Zero Interest Rate Policy "work" in a world where not everyone is following the same course? For example, China raised their rates again over the holiday. Or will capital flow to where it's treated best, potentially subjecting the US dollar to a Japan-like carry trade scenario?
2. Is the Fed's ZIRP primarily about protecting the US citizens from entering another Great Depression, or is it really about preventing the recognition of insolvency of most of the large major financial institutions in the US? Or are those one and the same?
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Parker
ReplyDeleteI see you have posted an interesting question this morning (actually, afternoon for me.) It will be interesting to see what kind of responses you get.
As for me, I will suggest the simple answers:
1) I think the dollar was been the funding currency for a carry trade for some time now... Borrow in dollars (which is a short trade in the dollar) and buy in higher yielding currencies. This carry trade will continue until either the short term rates increase in the U.S., or yields fall in the preferred currencies. The long side trade could be the Aussie dollar, the Real, or maybe the Kroner.
2) I am not sure of your intent here..., other than to assume the Fed keeping the short rates low to facilitate bank balance sheet repair by allowing banks to borrow cheap, and loan higher. At the same time, I am aware of the commercial bank preferred position of short the near term (in effect borrowing at the short term rate) and lending longer (the fractional lending feature of the Fed rules.)
I think the more dishonest and certainly more immoral solution to bank insolvency has been the FASB rule changes, allowing banks to report assets at face value instead of market value.
But then, what the heck do I know!
Bill
Yes it’s a problem because raising rates will draw more even money into China from overseas. This will cause them to take more measures to limit capital entering their country, and that will be difficult to maintain. As China raises rates while we create "money from nothing", the people who receive money will chase the higher returns that China offers and build the carry trade.
ReplyDeletePOMO/QE is here to stay. Raising rates is not on the table with so much debt. Ok I just convinced myself Gold still has much more upside. Stay long as the Fed blows the equity bubble. I hear Chile is a good place to live :-)
How do i post a chart?
ReplyDeleteClaudius
ReplyDeleteUnfortunately, on Blogspot all you can post in the comments is a link to a chart.
Parker
ReplyDeleteI have re-read part 2 of your question, and I think I mis-understood your question.
As I am sure you know, there is debate whether or not the Fed actually controls the only short term rate they claim to control. There does seem to exist evidence that the Fed merely follows the market. That being said, they clearly can offer Member banks money at their declared Discount rate. Member banks can then use those borrowed funds in all the ways that banks use deposited funds. It is believed that banks have used those cheap funds to invest in risk free Treasury bonds and notes, at very generous spreads which have had the effect of strengthening bank balance sheets, thus preventing insolvency.
On the other hand, their attempts at keeping rate low by becoming the "Best Bidder" for Treasuries and certain other GSE debt, even in some cases non-governmental debt, worked through the beginning of the most recent QE. Now, not so much. But it is clear that the Fed is intent on keeping rates low, I would suggest both to save the banks, and at the same time keep rates experienced by businesses the general population from raising.
Perhaps the question could be,, Do We Think It Will Work" to save the banks and prevent a second depression? With that question, my answer is simple..... NO
Bill
A few things to keep in mind as you contemplate maco economics on a global scale.
ReplyDelete1. The real intent of POMO is to raise equity values so to restore confidence in consumers. With every 401K statements showing higher value consumers become more confident and return to spending. Lower interest rates are intended to attract commercial borrowing once they see consumers have returned.
2. So far so good. Consumer confidence is up and the malls have been packed. However Adam Smith is rolling over in his grave as he knows, “long term” that economies are unsustainable on consumption alone.
3. “Long Term” is the key. Not that long ago, maybe 10 years I recall a shortage in the world supply of concrete, steel and copper. That’s because China was buying all they could to build factories (and an army).
4. Someone in China read Adam Smith and made a 50 year long term plan (a generation). Our long term plan is 4 years or until the next election.
In the end, consumers won’t return to consumption as before more due to lack of credit than anything else. Business’s wont borrow (they probably see this and maybe the reason for the high insider selling Terry mentioned) because they are comparing current consumer consumption to the most recent orgy. Businesses wont start borrowing until they see equal or higher consumption which wont come unless our Gov does something outrageous like forgive 1/2 the mortgage or student loan debt which will never happen. Don’t let this discourage you as our trusted government will try almost anything and everything to save the ruling empire. They will try something outrageous. It will be fun to speculate what that will be.
“The Americans ALWAYS do the right thing – after they have tried everything else” – Winston Churchill
But in the end, as traders, all of this doesn’t matter. If it did we would all be size short from August 26 end of T13. LOL.
When markets are rising be buyers, when they are falling be sellers.
Tim Mack
Does it concern anyone that for the past 15 years the Chinese have been the leading buyers of US Treasuries.(Part of their 50 year plan). Since QE1 was announced the media has shouted from the mountain top that each Treasury auction went well because of good participation by the Chinese. Now comes the interesting part, since the beginning of QE1 the net holdings of US Treasuries by the Chinese has dropped by 300-400 Billion. If the Fed is buying treasuries from the Chinese who will they sell them to when it comes time to sell and at how big a capital loss?
ReplyDeleteGood post Tim.
ReplyDeletePerma - pretty sure the Fed owns more treasuries now than China and Japan combined. They are literally monetizing the federal budget deficit.
I don't think that is the case. I remember Japan owned about $800B and China $1T. Not sure if that has changed dramatically.
ReplyDeletemarketlive
ReplyDeleteI should have said, after QE2 is over, the Fed will own more treasuries than China and Japan combined.
http://market-ticker.org/akcs-www?singlepost=2246960
Getting back to your original question, is ZIRP about protecting us from another “great depression” or about hiding the insolvency of some banks. I think it is the later. I think the intent is to put not just the country but perhaps the world into a deflationary spiral by collapsing the price of real estate.. This in essence would destroy the wealth (savings) of the average individual . Such an event will have the same effect as when banks collapsed and people lost there saving accounts during the 30’s depression. The difference being that people today keep the bulk of their savings in their home (home equity) rather than a bank.
ReplyDeleteThe problem with inflating the money supply has always been that price inflation shortly follows. But what if you first “knock out” the consumer by drastically reducing his net worth. Under such circumstance it becomes possible for government to monetize a large portion of it’s debt without causing dramatic price inflation. Taking things one step further we should remember that the US has still has the power of true money creation. By “true” I mean the Federal Government could bypass the Federal Reserve completely going directly to the treasury and ordering any amount of money it wished. In doing so it would mean that no new debt would be created. The last time the US did this was during JFK’s administration. The trick of course is doing it without causing destruction of the currency and dramatic price inflation. A deflationary depression (probably world wide) might just make this trick possible. The following was taken from Steve Kaplan’s news letter. If these real estate statistics are correct then a bursting of that bubble could provide the push needed to send the world into a powerful price deflation.
“While the housing bubble in the United States received some attention in 2005-2006, it was peanuts compared with today's real-estate bubbles around the world. U.S. housing prices reached just over twice fair value before they began a plunge which will surely continue for at least a few more years. At that time, the total value of U.S. residential real estate to GDP was at 1.8. Today, this ratio is 3.5 times GDP in China, 3.3 times GDP in Australia, 3.2 times GDP in New Zealand, 3.1 times GDP in the United Kingdom, and at similarly dangerous levels in numerous other countries including India, Canada, Indonesia, Brazil, Malaysia, Singapore, Colombia, Peru, Chile, and in other nations far too numerous to list here. If you rent out the average house in China today, your annualized rent will be equal to only 2.5% of the price of the house, versus a historic average of 7.5% in China and elsewhere for centuries (or millennia). This means that Chinese prices are at three times fair value. If you want to see what happens when a housing bubble at three times fair value collapses, as it inevitably must, then all you have to do is take a trip to Dublin, Ireland and look around.”