Caption from the WSJ: Regulators don’t think it is the place of Congress to second guess how they size up securities. Fed Chairwoman Janet Yellen said recently that legislation would “interfere with our supervisory judgments.” PHOTO: BAO DANDAN/ZUMA PRESS

PHOTO CREDIT: BAO DANDAN/ZUMA PRESS

March 2016April 2016Comments
Information received since the Federal Open Market Committee met in January suggests that economic activity has been expanding at a moderate pace despite the global economic and financial developments of recent months. Information received since the Federal Open Market Committee met in March indicates that labor market conditions have improved further even as growth in economic activity appears to have slowed. FOMC shades GDP down and employment up.
Household spending has been increasing at a moderate rate, and the housing sector has improved further; however, business fixed investment and net exports have been soft.Growth in household spending has moderated, although households’ real income has risen at a solid rate and consumer sentiment remains high. Since the beginning of the year, the housing sector has improved further but business fixed investment and net exports have been soft.Shades down household spending.
A range of recent indicators, including strong job gains, points to additional strengthening of the labor market.A range of recent indicators, including strong job gains, points to additional strengthening of the labor market.No change.
Inflation picked up in recent months; however, it continued to run below the Committee’s 2 percent longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports.Inflation has continued to run below the Committee’s 2 percent longer-run objective, partly reflecting earlier declines in energy prices and falling prices of non-energy imports.Shades energy prices up, and prices of non-energy imports down.
Market-based measures of inflation compensation remain low; survey-based measures of longer-term inflation expectations are little changed, on balance, in recent months.Market-based measures of inflation compensation remain low; survey-based measures of longer-term inflation expectations are little changed, on balance, in recent months.No change.  TIPS are showing higher inflation expectations since the last meeting. 5y forward 5y inflation implied from TIPS is near 1.73%, up 0.08% from March.  Significant move since February 2016.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.No change. Any time they mention the “statutory mandate,” it is to excuse bad policy.
The Committee currently expects that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace and labor market indicators will continue to strengthen.The Committee currently expects that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace and labor market indicators will continue to strengthen.No change.
However, global economic and financial developments continue to pose risks.They moved this down two sentences, sort of, as global markets are calmer.
Inflation is expected to remain low in the near term, in part because of earlier declines in energy prices, but to rise to 2 percent over the medium term as the transitory effects of declines in energy and import prices dissipate and the labor market strengthens further.Inflation is expected to remain low in the near term, in part because of earlier declines in energy prices, but to rise to 2 percent over the medium term as the transitory effects of declines in energy and import prices dissipate and the labor market strengthens further.No change. CPI is at +0.9% now, yoy.

Shades inflation down in the short run due to energy prices.

The Committee continues to monitor inflation developments closely.The Committee continues to closely monitor inflation indicators and global economic and financial developments.Adds in monitoring of global economics and finance.
Against this backdrop, the Committee decided to maintain the target range for the federal funds rate at 1/4 to 1/2 percent.Against this backdrop, the Committee decided to maintain the target range for the federal funds rate at 1/4 to 1/2 percent.No change.
The stance of monetary policy remains accommodative, thereby supporting further improvement in labor market conditions and a return to 2 percent inflation.The stance of monetary policy remains accommodative, thereby supporting further improvement in labor market conditions and a return to 2 percent inflation.No change.  They don’t get that policy direction, not position, is what makes policy accommodative or restrictive.
In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.No change.
This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.No change.  Gives the FOMC flexibility in decision-making, because they really don’t know what matters, and whether they can truly do anything with monetary policy.
In light of the current shortfall of inflation from 2 percent, the Committee will carefully monitor actual and expected progress toward its inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.In light of the current shortfall of inflation from 2 percent, the Committee will carefully monitor actual and expected progress toward its inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.No change.  Says that they will go slowly, and react to new data.  Big surprises, those.
The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction, and it anticipates doing so until normalization of the level of the federal funds rate is well under way. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction, and it anticipates doing so until normalization of the level of the federal funds rate is well under way. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.No change.  Says it will keep reinvesting maturing proceeds of agency debt and MBS, which blunts any tightening.
Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; James Bullard; Stanley Fischer; Loretta J. Mester; Jerome H. Powell; Eric Rosengren; and Daniel K. Tarullo.Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; James Bullard; Stanley Fischer; Loretta J. Mester; Jerome H. Powell; Eric Rosengren; and Daniel K. Tarullo.No change. Not quite unanimous.
Voting against the action was Esther L. George, who preferred at this meeting to raise the target range for the federal funds rate to 1/2 to 3/4 percent.Voting against the action was Esther L. George, who preferred at this meeting to raise the target range for the federal funds rate to 1/2 to 3/4 percent.One lonely voice that can think past the current consensus of neoclassical economists.

Comments

  • Policy continues to stall, as the economy muddles along.
  • But policy should be tighter. Savers deserve returns, and that would be good for the economy.
  • The changes for the FOMC’s view are that labor indicators are stronger, and GDP and household spending are weaker.
  • Equities rise and bonds rise. Commodity prices flat and the dollar falls.
  • The FOMC says that any future change to policy is contingent on almost everything.
  • The key variables on Fed Policy are capacity utilization, labor market indicators, inflation trends, and inflation expectations. As a result, the FOMC ain’t moving rates up much, absent much higher inflation, or a US Dollar crisis.

Photo Credit: thecrazysquirrel

Photo Credit: thecrazysquirrel

Before I start tonight, I just wanted to mention that I was on South Korean radio a few days ago, on the main English-speaking station, talking about Helicopter Money.  If you want listen to it or download it as a podcast, you can get it here.  It’s a little less than 11 minutes long.

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The bravery of Steve Kandarian and the executives at MetLife is a testimony to something I have grown to believe.  Frequently the government acts without a significant legal basis, and bullies companies into compliance.  If a company is willing to spend the resources, often the government will lose, when the laws are unduly vague or even wrongheaded.

This was true also in a number of the allegations made by Eliot Spitzer.  Lots of parties gave in because the press was negative, but those that fought him generally won.  Another tough-minded man, Maurice Raymond “Hank” Greenberg pushed back and won.  So did some others that were unfairly charged.

MetLife won its case against the Financial Stability Oversight Council [FSOC] in US District Court.  The government will likely appeal the case, but though I have been a bit of a lone voice here, I continue to believe that MetLife will prevail.  Here’s my quick summary as to why:

  • The FSOC’s case largely relies on the false idea that being big is enough to be a systemic risk.
  • Systemic risk is a mix of liquidity of liabilities, illiquidity of assets, credit risk, leverage, contagion, and lack of diversity of profit sources.
  • Liquidity of liabilities is the most important factor — in order to get a “run on the bank” there has to be a call on cash.  Life insurers have long liability structures, and it is very difficult for there to be a run.  People would have to forfeit a lot of value to run.
  • Contrast that with banks that use repo markets, and have short liability structures (w/deposit insurance, which is a help).  Add in margining at the investment banks…
  • The only life insurers that suffered “runs” in the last 30 years wrote lots of short-term GICs.  No one does that anymore.
  • Life insurers invest a lot of their money in relatively liquid corporates, and lesser amounts in illiquid mortgages.  Banks are the reverse.
  • Leverage at life insurers is typically lower than that of banks.
  • Insurers make money off of non-financial factors like mortality & morbidity.  Banks run a monoculture of purely financial risk.  (Okay, increasingly many of them make money off of “free” checking, and then kill their sloppy depositors who overdraw their accounts… as I said to one of my kids, “Hey, your best friend “XXX bank” sent you a love note thanking you for the generous gift you gave them.”)
  • That makes contagion risk larger for banks than life insurers — banks often have more investments across the financial sector than insurers do.
  • Life insurers tend to be simpler institutions than banks.  There is less too-clever-for-your-own-good risk.
  • State regulators are less co-opted than Federal regulators.  They also employ actuaries to analyze actuaries.  (At least the better and larger states do.)
  • Finally, life insurers do more strenuous tests of solvency and risk.  They test solvency for decades, not years.  They have actuaries who are bound by an ethics code — the quants at the banks have no such codes, and no responsibility to the regulators.  The actuaries with regulatory responsibility serve two masters, and though I had my doubts when the appointed actuary statutes came into being, it has worked well.  The problems of the early ’90s did not recur.  The insurance industry generally eschewed non-senior RMBS, CMBS and ABS in the mid-2000s, while the banks loved the yieldy illiquid beasties, and lost as a result.

Anyway, that’s my summary case.  I haven’t always been a fan of the industry that I was raised in, but the life insurers learned from their past errors, and as a result, made it through the financial crisis very well, unlike the banks.

PS — there are some things I worry about at life insurers, like LTC and secondary guarantees, but I doubt the FSOC could figure out how big those are as an issue.  A few companies are affected, and I’m not invested in them.  Also, those risks aren’t systemic.

Full disclosure: long ENH NWLI BRK/B GTS RGA AIZ KCLI and MET

Photo Credit: Gerard Van der Leun || Personally, I would not have wanted my name on that law

Photo Credit: Gerard Van der Leun || Personally, I would not have wanted my name on that law

 

This should be short.  If you want more, you can read my old piece, “Who Dares Oppose a Boom?

Laws are only as good as those that enforce them.  There was no lack of power in the hands of regulators prior to the financial crisis.  There was a lack of willingness to use the power given, because regulators were discouraged by those above them from using the powers that they could use.  That included both political appointees to high-level positions in the bureaucracy and Congressmen.

The real risk today is not that the laws are inadequate.  Dodd-Frank has its flaws, and I didn’t like handing so many things over to committees, but with respect to banks, it is better than what we had previously.  The risk is that regulators will once again not use the powers that they have, and be lax in enforcement.

I’ve argued before that state regulation of insurance is far superior to federal banking regulation.  There are several reasons for this:

  • Small-mindedness is good in regulation.  Protect the downside, let the regulated suffer.
  • Actuaries have an ethics code.  Their equivalent inside banks do not.  Regulators do not.  (Chartered Financial Analysts also have an ethics code, as an aside…)
  • It’s harder to corrupt 50 states than one federal regulator, particularly if you can choose that federal regulator.

Now, the next big problem may not be in the finance sector… I tend to think that we will see a major developed nation go through a crisis of its finances as the next crisis.  But if there is a significant financial crisis, it will be because the regulators did not do their jobs, whether under outside pressure or not.

Caption from the WSJ: Regulators don’t think it is the place of Congress to second guess how they size up securities. Fed Chairwoman Janet Yellen said recently that legislation would “interfere with our supervisory judgments.” PHOTO: BAO DANDAN/ZUMA PRESS

Caption from the WSJ: Regulators don’t think it is the place of Congress to second guess how they size up securities. Fed Chairwoman Janet Yellen said recently that legislation would “interfere with our supervisory judgments.” PHOTO: BAO DANDAN/ZUMA PRESS

Catch the caption from the WSJ for the above picture:

Regulators don’t think it is the place of Congress to second guess how they size up securities. Fed Chairwoman Janet Yellen said recently that legislation would “interfere with our supervisory judgments.”

Regulators are not required by the Constitution, but Congress, perverse as it is, is the body closest to the people, getting put up for election regularly.   Of course Congress should oversee financial regulation and monetary policy from an unelected Federal Reserve.  That’s their job.

I’m not saying that the Congressmen themselves understand these things well enough to do anything — but that’s true of most laws, etc.  If the Federal Reserve says they are experts on these matters, past bad results notwithstanding, Congress can get people who are experts as well to aid them in their decisions on laws and regulations.

The above is not my main point, though.  I have a specific example to draw on: municipal bonds.  As the Wall Street Journal headline says, are they “Safe or Hard to Sell?”  For financial regulation, that’s the wrong question, because this should be an asset-liability management problem.  Banks should be buying assets and making loans that fit the structure of their liabilities.  How long are the CDs?  How sticky are the deposits and the savings accounts?

If the maturities of the munis match the liabilities of the bank, they will pay out at the time that the bank needs liquidity to pay those who place money with them.  This is the same as it would be for any bond or loan.

If a bank, insurance company, or any financial institution relies on secondary market liquidity in order to protect its solvency, it has a flawed strategy.  That means any market panic can ruin them.  They need table stability, not bicycle stability.  A table will stand, while a bicycle has to keep moving to stay upright.

What’s that you say?  We need banks to do maturity transformation so that long dated projects can be cheaply funded by short-term savers.  Sorry, that’s what leads to financial crises, and creates the run on liquidity when the value of long dated assets falls, and savers want their money back.  Let long dated assets that want debt financing be financed by REITs, pension plans, endowments, long-tail casualty insurers, and life insurers.  Banks should invest short, and use the swap market t aid their asset liability needs.

Thus, there is no need for the Fed to be worrying about muni market liquidity.  The problem is one of asset-liability matching.  Once that is settled, banks can make intelligent decisions about what credit risk to take versus their liabilities.

In many ways, our regulators learned the wrong lessons in the recent crisis, and as such, they meddle where they don’t need to, while neglecting the real problems.

But given the strength of the banking lobby, is that any surprise?

Photo Credit: Friends of the Earth International || Note: the above is just a photo to illustrate a point. I do not endorse debt cancellation under most coircumstances

Photo Credit: Friends of the Earth International || Note: the above is just a photo to illustrate a point. I do not endorse debt cancellation under most circumstances.  I do support debt-for-equity swaps to delever the system.

Debt, debt, debt… debt is kind of like a snowflakes.  A single snowflake is a pretty star, but one quintillion of them is a horrendous mess.  In the same way, most individual debts are reasonable and justifiable, but when debt becomes a pervasive part of the economic system, the second order effects kick in:

  • As fixed claims grow relative to equity claims, the economy becomes less flexible, because many are counting on the debts for which they are creditors to be paid back at par.
  • Economies that are heavily indebted grow slower.
  • Central banks following untested and dubious theories like QE and negative interests rates try help matters, but end up making things worse.  (Gold would be an improvement.  Just regulate the solvency of banks tightly, which was not done in cases where the gold standard failed.)
  • Political unrest leads to dubious populism, and demands for debt cancellation, and a variety of other quack economic cures.
  • The most solvent governments find high demand for their long debt.  Long-dated claims raise in value as inflation falls along with monetary velocity.

Thus the mess.  Bloomberg had an article on the topic recently, where it tried to ask whether and where there might be a crisis.  I’ve argued in the last year that we shouldn’t have a major crisis in the US over domestic debts.  There are a few areas that look bad:

  • Student loans
  • Agriculture loans
  • Corporate debts to speculative grade companies that are negatively affected by falling crude oil and commodity prices.
  • Maybe some auto loans?

But those don’t add up to a debt market in trouble as when residential mortgages were on the rocks.

But what of other nations and their debts, public and private?

Tough question.

That said, the answer is akin to that for a corporation with a tweak or two.  It’s not the total amount of indebtedness versus assets or income that is the main issue, it is whether the debts can continue to be rolled over or not.  A smaller amount of debt can be a much larger problem than a bigger amount that is longer. (point 2 below)

Take a step back.  With countries there are a variety of factors that would make skeptical about their financial health:

  • Large increases in indebtedness
  • Large amounts of short-term debt
  • Large amounts of foreign currency-denominated liabilities (also true of the entire Eurozone — you don’t control the value of what you will pay back)
  • A fixed, or pseudo-fixed exchange rate (versus floating)
  • A weak economy, and
  • Debt and/or debt service to GDP ratios are high

The first point is important because whatever class of debt increases the most rapidly is usually the best candidate for credit troubles.  Debt that is issued rapidly rarely gets put to good uses, and those that buy it usually aren’t doing their homework.

Under ordinary circumstances, this would implicate China, but the Chinese government probably has enough resources to cover their next credit crisis.  That won’t be true forever, though, and China needs to take steps to make their banking system sound, such that it never generates losses that an individual bank can’t handle.  Personally, I doubt that it will get there, because members of the Party use the banking system for their own benefit.

Points 3, 4, and 6 deal with borrowers compromising on terms in order to borrow.  They are stretching, and accepting terms not adjustable in favor of the debtor, or can be adjusted against the debtor.   If you control your own currency, these problems are modified, because of the option to print currency to pay off debt, and inflate problems away. (Which creates other problems…)

By pseudo-fixed interest rates, I take into account countries that as neo-mercantilists make policy to benefit their exporters at the cost of their importers and consumers.  These countries fight changes in the exchange rate, even though the exchange rate may technically float.

Point 5 simply says that there is insufficient growth to absorb the increases in debt.  Economies growing strongly rarely default.

Conclusion?

My view is this: the next major credit crisis will be an international one, and will involve governments that can’t pay on their debts.  It won’t include the US, the UK, and certainly not Canada.  It probably won’t involve China.  Weak parts of the Eurozone and Japan are possibilities, along with a number of emerging markets.

And, as an aside, if this happens, people will lose faith in central banks as being able to control everything.  I think the central banks and national treasuries will find themselves hard pressed to find agreement at that time.  QE and negative interest rates might be controllable in a domestic setting, but in an international framework, other nations might finally say, “Why would I want to get paid back in that weak currency?”  (And what holds that back now is that virtually all of the world’s currencies except gold are involved in competitive devaluation to some extent.)

My advice is this: be careful with your international holdings.  The world may be peaceful right now, and everyone may be getting along, but that might not last.  Diversification is a good idea, but don’t forget that there is no place like home, unless the crisis is in your home.

December 2015January 2016Comments
Information received since the Federal Open Market Committee met in October suggests that economic activity has been expanding at a moderate pace.Information received since the Federal Open Market Committee met in December suggests that labor market conditions improved further even as economic growth slowed late last year.Shades up labor conditions.  Shades down economic growth.
Household spending and business fixed investment have been increasing at solid rates in recent months, and the housing sector has improved further; however, net exports have been soft.Household spending and business fixed investment have been increasing at moderate rates in recent months, and the housing sector has improved further; however, net exports have been soft and inventory investment slowed.Shades household spending down.
A range of recent labor market indicators, including ongoing job gains and declining unemployment, shows further improvement and confirms that underutilization of labor resources has diminished appreciably since early this year. A range of recent labor market indicators, including strong job gains, points to some additional decline in underutilization of labor resources.Shades labor employment up.
Inflation has continued to run below the Committee’s 2 percent longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports.Inflation has continued to run below the Committee’s 2 percent longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports.No change.
Market-based measures of inflation compensation remain low; some survey-based measures of longer-term inflation expectations have edged down.Market-based measures of inflation compensation declined further; survey-based measures of longer-term inflation expectations are little changed, on balance, in recent months.Shades current and forward inflation down.  TIPS are showing lower inflation expectations since the last meeting. 5y forward 5y inflation implied from TIPS is near 1.53%, down 0.18% from September.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.No change. Any time they mention the “statutory mandate,” it is to excuse bad policy.
The Committee currently expects that, with gradual adjustments in the stance of monetary policy, economic activity will continue to expand at a moderate pace and labor market indicators will continue to strengthen.The Committee currently expects that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace and labor market indicators will continue to strengthen.Shifts language to reflect moving from easing to tightening.
Overall, taking into account domestic and international developments, the Committee sees the risks to the outlook for both economic activity and the labor market as balanced. Sentence dropped.
Inflation is expected to rise to 2 percent over the medium term as the transitory effects of declines in energy and import prices dissipate and the labor market strengthens further.Inflation is expected to remain low in the near term, in part because of the further declines in energy prices, but to rise to 2 percent over the medium term as the transitory effects of declines in energy and import prices dissipate and the labor market strengthens further.CPI is at +0.7% now, yoy.

Shades inflation down in the short run due to energy prices.

The Committee continues to monitor inflation developments closely.The Committee is closely monitoring global economic and financial developments and is assessing their implications for the labor market and inflation, and for the balance of risks to the outlook.Says that they watch every economic indicator only for their likely impact on labor employment and inflation.
The Committee judges that there has been considerable improvement in labor market conditions this year, and it is reasonably confident that inflation will rise, over the medium term, to its 2 percent objective. Dropped sentence.
Given the economic outlook, and recognizing the time it takes for policy actions to affect future economic outcomes, the Committee decided to raise the target range for the federal funds rate to 1/4 to 1/2 percent.Given the economic outlook, the Committee decided to maintain the target range for the federal funds rate at 1/4 to 1/2 percent.No real change.
The stance of monetary policy remains accommodative after this increase, thereby supporting further improvement in labor market conditions and a return to 2 percent inflation.The stance of monetary policy remains accommodative, thereby supporting further improvement in labor market conditions and a return to 2 percent inflation.No real change.  They don’t get that policy direction, not position, is what makes policy accommodative or restrictive.
In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.No change.
This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.No change.  Gives the FOMC flexibility in decision-making, because they really don’t know what matters, and whether they can truly do anything with monetary policy.
In light of the current shortfall of inflation from 2 percent, the Committee will carefully monitor actual and expected progress toward its inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.In light of the current shortfall of inflation from 2 percent, the Committee will carefully monitor actual and expected progress toward its inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.No change.  Says that they will go slowly, and react to new data.  Big surprises, those.
The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction, and it anticipates doing so until normalization of the level of the federal funds rate is well under way. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction, and it anticipates doing so until normalization of the level of the federal funds rate is well under way. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.Says it will keep reinvesting maturing proceeds of agency debt and MBS, which blunts any tightening.
Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Charles L. Evans; Stanley Fischer; Jeffrey M. Lacker; Dennis P. Lockhart; Jerome H. Powell; Daniel K. Tarullo; and John C. Williams.Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; James Bullard; Stanley Fischer; Esther L. George; Loretta J. Mester; Jerome H. Powell; Eric Rosengren; and Daniel K. Tarullo.Changing of the guard of regional Fed Presidents, making them ever so slightly more hawkish, and having no effect on policy.

Comments

  • Policy stalls, as their view of the economy catches up with reality.
  • The changes for the FOMC is that labor indicators are stronger, and GDP weaker.
  • Equities fall and bonds rise. Commodity prices rise and the dollar falls.  Maybe some expected a bigger move.
  • The FOMC says that any future change to policy is contingent on almost everything.
  • The key variables on Fed Policy are capacity utilization, labor market indicators, inflation trends, and inflation expectations. As a result, the FOMC ain’t moving rates up much, absent much higher inflation, or a US Dollar crisis.

A while ago I wrote two pieces called “Easy In, Hard Out.”  The main idea was to illustrate the difficulties that the Federal Reserve will face in removing policy accommodation.   In the past, the greater the easing cycle, the harder the tightening cycle.  I don’t think this time will be any different.

In the last two pieces, I showed three graphs to illustrate how the Fed’s balance sheet has changed.  I’m going to show them again now, updated to 11/11/2015.  Here’s the graph showing the liabilities of the Federal Reserve — i.e. what the Fed eventually has to pay back, occasionally with interest:

I’ve added a new category since last time — reverse repurchase agreements (“reverse repos”) because it has gotten big.  In that category, you have money market funds (etc.) lending to the Fed to pick up a pittance in interest.

As you might note — as the balance sheet has grown, all categories of liabilities have grown.  The pristine balance sheet composed mostly of currency is no more — it is only around 30% of the liabilities now.  The biggest increase in reserve balances at the Fed — banks lending to the Fed to receive a pittance in interest, because they have nothing better to do for now.

I’ve considered doing an experiment, and I might do it over the next few weeks.  I went to my copy of AAII Stock Investor, and pulled out the contact data for 336 banks with market capitalizations of over $100 million.  I was thinking of calling 10 of them at random, and asking the following questions:

  • What has the Fed’s ZIRP policy done to your business?
  • Do you have a lot of money on deposit at the Federal Reserve?
  • When the Fed raises the short-term interest rate, what do you plan on doing?
  • Then, the same questions asking them about their competitors.
  • Finally, who has the most to lose in this situation?

It could be revealing, or it could be a zonk.

One more interesting note: reverse repos and my “all other” category have become increasingly volatile of late.

Here’s my next graph, with the asset class composition of the Fed’s balance sheet:

The Fed has gone from a pristine balance sheet of 95% Treasuries to one of 60/40 Treasuries and Mortgage-backed securities [MBS].  MBS are considerably less liquid than Treasuries, particularly when you are the largest holder of them by a wide margin — I’ve heard that it is 25% of the market.  The moment that it would become public knowledge that you were a seller, the market would re-rate down in price considerably, until holders became compensated for the risk of more MBS supply.

Finally, here is the maturity graph for the assets owned by the Fed:

The pristine balance sheet of 2008 was very short in its interest rate sensitivity for its assets — maybe 3 years average at most.  Now maybe the average maturity is 12?  I think it is longer…

Does anybody remember when I wrote a series of very unpopular pieces back in 2008 defending mark-to-market accounting?  Those made me very unpopular inside Finacorp, the now-defunct firm I worked for back then.

I see three hands raised.  My, how time flies.  For the three of you, do you remember what the toxic balance sheet combination is?  The one lady is raising her hand.  The lady has it right — Illiquid assets and liquid liabilities!

In a minor way, that is the Fed now.  Their liabilities will reprice little as they raise rates, while the market value of their assets will fall harder if the yield curve moves in a parallel shift.  No guarantee of a parallel shift, though — and I think the long end may not budge, as in 2004-7.  Either way though, the income of the Fed will decline rapidly, and any adjustment to their balance sheet will prove difficult to achieve.

What’s that, you say?  The Fed doesn’t mark its assets to market?  You got it.  But cash flows don’t change as a result of accounting.

Now, there is one bit of complexity here that was rumored at the Cato Conference — supposedly the Fed doesn’t use a prepayment model with its MBS.  If anyone has better info on that, let me know.  If true, the average life figures which are mostly in the 10-30 years bucket are highly suspect.

As a result of the no-mark-to-market accounting, the Fed won’t show deterioration of its balance sheet in any conventional way.  But you could see seigniorage — the excess interest paid to the US Treasury go negative, and the dividend to its owner banks suspended/delayed for a time if rates rose enough.  Asking the banks to buy more stock in the Federal Reserve would also be a possibility if things got bad enough — i.e., where the future cash flows from the assets could never pay all of the liabilities.  (Yes, they could print money together with the Treasury, but that has issues of its own.  Everything the Fed has done with credit so far has been sterile.  No helicopter drop of money yet.)

Of course, if interest rates rose that much, the US Treasury’s future deficits would balloon, and there would be a lot of political pressure to keep interest rates low if possible.  Remember, central banks are political creatures, much as their independence is advertised.

Conclusion?

Ugh.  The conclusions of my last two pieces were nuanced.  This one is not.  My main point is this: even with the great powers that a central bank has, the next tightening cycle has ample reason for large negative surprises, leading to a premature end of the tightening cycle, and more muddling thereafter, or possibly, some scenario that the Treasury and Fed can’t control.

Be ready, and take some risk off the table.

Photo Credit: Mike Beauregard || Frozen solid, right?

Photo Credit: Mike Beauregard || Frozen solid, right?

The talk regarding an illiquid public corporate bond market goes on, and if you’ve read me over the past year on this topic, you know that I don’t think it is a serious issue.  One of the reasons why it is not a big issue is that the public bond market is designed to be low liquidity.

It starts with how bonds are originally issued.  New bonds and new stocks are issued in similar ways, but with a few differences:

  • IPOs of stocks have a higher retail component.  Bonds, aside from muni bonds, are typically almost entirely institutional
  • IPOs are typically priced cheap, but with bonds the cheapness is smaller and more frequent.
  • Bond IPOs usually happen with companies that have issued other bonds before
  • Bond IPOs happen more frequently, except in a bear market
  • Bond IPOs typically happen more rapidly, minutes to a few days, except in a bear market

IPOs on Wall Street get allocated if they are oversubscribed.  When they are oversubscribed, the deal is typically good, and everyone wants more, so they put in huge orders.  The dealer desks on Wall Street solves this problem by allocating proportionate to the size that they have come to understand the managers in question typically buy and sell at, with some adjustment for account profitability.

Those that flip cheap bonds for a quick profit typically get penalized, and their allocations get reduced.  Those that buy bonds in the open market when the deal breaks and becomes “free to trade” can become eligible for larger allocations.  The dealer desks work in this way because they want the buyers to be long-term holders, and not seekers of easy profits from flipping.  That doesn’t mean you can never trade a bond you have bought — just not in the first month, subject to a few exceptions like a small allocation, your credit analyst rejected it, etc.  (Oh, and if one of those exceptions exists, the primary dealers want to do the secondary trade.  If the exceptions don’t exist, they don’t want to know about it.)

If flippers ever get big, despite the efforts of the dealer desks, they will price a deal very tight, and let the flippers take a big loss, with no one wanting to buy the excess bonds unless they are much, much cheaper.

The main effect of this is that once a deal is allocated, it is typically “well-placed,” with few secondary trades after the IPO.  This is even more pronounced with mortgage bonds, which aside from the AAA tranches, have very small tranche sizes, making them very illiquid.

In this environment, where yields have fallen over the past few years, it is difficult for financial companies that have bought bonds to replace the income if they sell the bond.  Thus, few bonds will be sold unless they are in the hands of buyers that don’t have a formal balance sheet, or, when credit quality is deteriorating badly.

Add in one more factor, and you can see why the market is so illiquid — the buy side of the market is more concentrated than in prior years, with big buyers like PIMCO, Blackrock, Metlife, Prudential, etc. being a larger portion of the market.  Concentrated markets with few holders tend to be less liquid.

All Good/Bad Things Must Come to an End

Some of these factors can be reversed, and others can be mitigated.

  • There’s no reason why the buy side has to stay concentrated.  Big institutions eventually break up because diseconomies of scale kick in.  Management teams typically do worse as companies get more complex.
  • Eventually interest rates will rise.  Once bonds are in a nearly neutral to negative capital gains positions, parties with balance sheets will trade bonds again.
  • Even mutual funds that own a lot of yieldy bonds can have a strategy for dealing with the illiquidity.  Yieldy bonds have excess yield relative to bonds of similar duration and credit quality, and are often less liquid because there is something odd about them that makes some portion of the market skeptical, which reduces liquidity.  A mutual fund holding a lot of less liquid bonds, can deal with illiquidity by selling opportunistically, selling more liquid bonds in the short-run, while discreetly inquiring on a few less liquid issues to see where real bids might be.  Remember, the amount of underperformance is likely to be limited, if any, so a run on a mutual fund is not likely, but in the unlikely case of a run, this can mitigate the effects.  Personally, I would not be concerned, so long as you keep your pricing marks conservative if cash outflows become a rule in the short-run.

In closing, don’t worry about illiquidity in the bond markets.  If there is a need for liquidity, the problem will solve itself as sellers lose a little bit in order to gain cash to make payments.  It’s that simple.

Photo Credit: Day Donaldson

Photo Credit: Day Donaldson

July 2015September 2015Comments
Information received since the Federal Open Market Committee met in June indicates that economic activity has been expanding moderately in recent months.Information received since the Federal Open Market Committee met in July suggests that economic activity is expanding at a moderate pace.No real change.
Growth in household spending has been moderate and the housing sector has shown additional improvement; however, business fixed investment and net exports stayed soft. Household spending and business fixed investment have been increasing moderately, and the housing sector has improved further; however, net exports have been soft. No real change. Swapped places with the following sentence.
The labor market continued to improve, with solid job gains and declining unemployment. On balance, a range of labor market indicators suggests that underutilization of labor resources has diminished since early this year.The labor market continued to improve, with solid job gains and declining unemployment. On balance, labor market indicators show that underutilization of labor resources has diminished since early this year.No real change. Swapped places with the previous sentence.
Inflation continued to run below the Committee’s longer-run objective, partly reflecting earlier declines in energy prices and decreasing prices of non-energy imports.Inflation has continued to run below the Committee’s longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports.No real change.
Market-based measures of inflation compensation remain low; survey‑based measures of longer-term inflation expectations have remained stable.Market-based measures of inflation compensation moved lower; survey-based measures of longer-term inflation expectations have remained stable.No change.  TIPS are showing lower inflation expectations since the last meeting. 5y forward 5y inflation implied from TIPS is near 1.90%, down 0.20% from July.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.No change. Any time they mention the “statutory mandate,” it is to excuse bad policy.
 Recent global economic and financial developments may restrain economic activity somewhat and are likely to put further downward pressure on inflation in the near term.New sentence.  Nods at the recent volatility in risky asset markets here and abroad.
The Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace, with labor market indicators continuing to move toward levels the Committee judges consistent with its dual mandate.Nonetheless, the Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace, with labor market indicators continuing to move toward levels the Committee judges consistent with its dual mandate.No real change.
The Committee continues to see the risks to the outlook for economic activity and the labor market as nearly balanced. Inflation is anticipated to remain near its recent low level in the near term, but the Committee expects inflation to rise gradually toward 2 percent over the medium term as the labor market improves further and the transitory effects of earlier declines in energy and import prices dissipate. The Committee continues to monitor inflation developments closely.The Committee continues to see the risks to the outlook for economic activity and the labor market as nearly balanced but is monitoring developments abroad. Inflation is anticipated to remain near its recent low level in the near term but the Committee expects inflation to rise gradually toward 2 percent over the medium term as the labor market improves further and the transitory effects of declines in energy and import prices dissipate. The Committee continues to monitor inflation developments closely.CPI is at +0.2% now, yoy.  Notes influence of foreign market factors on their actions.
To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate. In determining how long to maintain this target range, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate. In determining how long to maintain this target range, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.No change.
The Committee anticipates that it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term.The Committee anticipates that it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term.No change.

No rules, just guesswork from academics and bureaucrats with bad theories on economics.

The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.No change.  Changing that would be a cheap way to effect a tightening.
When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.No Change.

“Balanced” means they don’t know what they will do, and want flexibility.

Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Charles L. Evans; Stanley Fischer; Jeffrey M. Lacker; Dennis P. Lockhart; Jerome H. Powell; Daniel K. Tarullo; and John C. Williams.Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Charles L. Evans; Stanley Fischer; Dennis P. Lockhart; Jerome H. Powell; Daniel K. Tarullo; and John C. Williams.Still a majority of doves.

We need some people in the Fed and in the government who realize that balance sheets matter – for households, corporations, governments, and central banks.  Remove anyone who is a neoclassical economist – they missed the last crisis; they will miss the next one.

 Voting against the action was Jeffrey M. Lacker, who preferred to raise the target range for the federal funds rate by 25 basis points at this meeting.Lacker dissents, arguing policy has been too loose for too long.

Comments

  • This FOMC statement was another great big nothing. Only notable change was the influence of risky asset markets and foreign markets on the decision-making process on the FOMC.
  • Don’t expect tightening in October. People should conclude that the FOMC has no idea of when the FOMC will tighten policy, if ever.  This is the sort of statement they issue when things are “steady as you go.”  There is no hint of imminent policy change.
  • Despite lower unemployment levels, labor market conditions are still pretty punk. Much of the unemployment rate improvement comes more from discouraged workers, and part-time workers.  Wage growth is weak also.
  • Equities flat and long bonds rise. Commodity prices rise and the dollar falls.
  • The FOMC says that any future change to policy is contingent on almost everything.
  • Don’t know they keep an optimistic view of GDP growth, especially amid falling monetary velocity.
  • The key variables on Fed Policy are capacity utilization, labor market indicators, inflation trends, and inflation expectations. As a result, the FOMC ain’t moving rates up, absent improvement in labor market indicators, much higher inflation, or a US Dollar crisis.
  • We have a congress of doves for 2015 on the FOMC. Things will continue to be boring as far as dissents go.  We need some people in the Fed and in the government who realize that balance sheets matter – for households, corporations, governments, and central banks.  Remove anyone who is a neoclassical economist – they missed the last crisis; they will miss the next one.

Photo Credit: Nate Steiner || There is always enough time to panic. ;)

Photo Credit: Nate Steiner || There is always enough time to panic. ;)

Today, I happened to stumble across an old article of mine: Easy In, Hard Out (Updated).  It’s kind of long, but goes into the changes that have happened at the Fed since the crisis, and points out why tightening policy might be tough.  Nothing has changed in the 2.4 years since I wrote it, so I am going to reprint the end of the article.  Let me know what you think.

-==-=-=–==-=–=-==-=-=-=-=-

In normal times, central banks buy only government debt, and keeps the assets relatively short, at longest attempting to mimic the existing supply of government debt.  Think of it this way, purchases/sales of longer debt injects/removes liquidity for longer periods of time.  Staying short maintains flexibility.

Yes, the Fed does not mark its securities or gold to market.  Under most scenarios, it is impossible for a central bank which can issue its own currency to go broke.  Rare exceptions — home soil wars that fail, or political repudiation of the bank, where the government might create a new monetary standard, or closes the bank because of inflation.  (Hey, the central bank has been eliminated twice before.  It could happen again.)

The only real effect is on how much seigniorage the Fed remits to the Treasury, or, if things go bad, how much the Treasury would have to lend/send to the central bank in order to avoid the bad optics of negative capital, perhaps via the Supplemental Financing Account.  This isn’t trivial; when people hear the central bank is “broke,” they will do weird things.  To avoid that, the Fed’s gold will be revalued to market at minimum; hey maybe the Fed at that time will be the vanguard of market value accounting, and revalue everything.  Can you imagine what the replacement cost of the NY Fed building is?  The temple in DC?

Or, maybe the bank would be recapitalized by its member banks, if they are capable of doing so, with the reward being the preferred dividend they receive.

Back to the main point.  What effect will this abnormal monetary policy have in the future?

 

Scenarios

1) Growth strengthens and inflation remains low.  In this unusual combo, it will be easy for the Fed to collapse its balance sheet, and raise rates.  This is the dream scenario; and I don’t think it is likely.  Look at the global economy; there is a lot of slack capacity.

2) Growth strengthens and inflation rises.  The Fed will likely raise the interest on reserves rate, but not sell bonds.  If they do sell bonds, the market will back up, and their losses will be horrible.  If don’t take the losses, seigniorage could be considerably reduced, or even vanish, as the Fed funds rate rises, but because of the long duration asset portfolio, asset income rises slowly.  This is where the asset-liability mismatch bites.

If the Fed doesn’t raise the interest on reserves rate, I suspect banks would be willing to lend more, leaving fewer excess reserves at the Fed, which could stimulate more inflation. Now, there are some aspects of inflation that remain a mystery — because sometimes inflationary conditions affect assets, rather than goods, I think depending on demographics.

3) Growth weakens and inflation remains low.  This would be the main scenario for QE4, QE5, etc.  We don’t care much about the Fed’s balance sheet until the Fed wants to raise rates, which is mainly a problem in Scenario 2.

4) Growth weakens and inflation rises, i.e. stagflation.  There’s no good set of policy options here. The Fed could engage in further financial repression, keeping short rates low, and let inflation reduce the nominal value of debts.  If it doesn’t run wild, it could play a role in reducing the indebtedness of the whole economy, though again, it will favor debtors over savers.  (As I’ve said before, in a situation like this, or like the Eurozone, all creditors want to be paid back at par on the bad loans that they have made, and it can’t be done.  The pains of bad debt have to go somewhere, where it goes is the argument.)

I’ve kept this deliberately simple, partially because with all of the flows going back and forth, and trying to think of the whole system, rather than effects on just one part, I know that I have glossed over a lot.  I accept that, and I could be dead wrong, as I sometimes am.  Comment as you like, with grace and dignity, and let us grow together in our knowledge.  I’ve been spending some time reading documents at the Fed, trying to understand their mechanisms, but I could always learn more.

 

Summary

During older times, the end of a Fed loosening cycle would end with the Fed funds rate rising.  In this cycle, it will end with interest of reserves rising, and/or, the sale of bonds, which I find less likely (they will probably be held to maturity, absent some crisis that we can’t imagine, or non-inflationary growth).  But when the tightening cycle comes, the Fed will find that its actions will be far harder to take than when they made the “policy accommodation.”  That has always been true, which is why the Fed during its better times limited the amount of stimulus that it would deliver, and would tighten sooner than it needed to.

Far better to be like McChesney Martin or Volcker, and be tough, letting recessions do their necessary work of eliminating bad debt.  Under Greenspan, and Bernanke to a lesser extent (though he persists in pushing the canard that the Fed was not too loose 2003-2004, ask John Taylor for more), there were many missed opportunities to stop the buildup of bad debts, but the promise of the “Great Moderation” beguiled so many.

Removing policy accommodation is always tougher than imagined, and carries new risks, particularly when new tools have been used.  Bernanke can go to his carefully chosen venues and speak to his carefully chosen audiences, and try to exonerate the Fed from well-deserved blame for their looseness in the late 80s, 90s, and 2000s.  Please, Mr. Bernanke, take some blame there on behalf of the Fed — the credit boom could never have happened without the Fed.  Painting the Fed as blameless is wrong; the “Greenspan put” landed us in an overleveraged bust.

I’m not primarily blaming the Fed for its current conduct; we are still in the aftermath of a lending bust — too much bad mortgage debt, with a government whose budget is out of balance.  (In the bust, there are no good solutions.)  I am blaming the Fed for loose policies 1984-2007, monetary policy should have been a lot tighter on average.  But now we live with the results of prior bad policy, and may the current Fed not compound it.

Postscript

The main difference between this time and the last time I wrote on this is QE3.  What has been the practical impact since then?  The Fed owns more MBS and long maturity Treasuries, financed by more reserve balances at the Fed.

Banks use this cheap funding to finance other assets.  But if they want to make money, the banks have to take credit risk (something the Fed is trying to stimulate), and/or interest rate rate risk (borrow short, lend long, negative convexity, etc).  The longer low rates go on through interest on reserves, the greater the tendency to build up imbalances in the banking system through credit and interest rate risks. 1992-1993 where Fed funds rates were held at 3%, was followed by the residential mortgage backed security market melting down in 1994, not to mention Mexico.  Sub-2% Fed funds rates from 2002 through mid-2004 led to massive overinvestment in residential housing, leading to the present crisis.

Fed tightening cycles often start with a small explosion where short-dated financing for thinly capitalized speculators evaporates, because of the anticipation of higher financing rates.  Fed tightening cycles often end with a large explosion, where a large levered asset class that was better financed, was not financed well-enough.  Think of commercial property in 1989, the stock market in 2000 (particularly the NASDAQ), or housing/banks in 2008.  And yet, that is part of what Fed policy is supposed to do: reveal parts of the economy that are running too hot, so that capital can flow from misallocated areas to areas that are more sound.  At present, my suspicion is that we still have more trouble to come in banking sector.  Here’s why:

We’ve just been through 4.5 years of Fed funds / Interest on reserves being below 0.5% — this is a far greater period of loose policy than that of 1992-1993 and 2002 to mid-2004 together, and there is no apparent end in sight.  This is why I believe that any removal of policy accommodation will prove very difficult.  The greater the amount of policy accommodation, the greater the difficulties of removal.  Watch the fireworks, if/when they try to remove it.  And while you have the opportunity now, take some risk off the table.