June 2016July 2016Comments
Information received since the Federal Open Market Committee met in April indicates that the pace of improvement in the labor market has slowed while growth in economic activity appears to have picked up.Information received since the Federal Open Market Committee met in June indicates that the labor market strengthened and that economic activity has been expanding at a moderate rate.FOMC shades GDP down and employment up, which is the opposite of last time.
Although the unemployment rate has declined, job gains have diminished.Job gains were strong in June following weak growth in May. On balance, payrolls and other labor market indicators point to some increase in labor utilization in recent months. Sentence moved up in the statement.  Expresses less confidence in the labor market.
Growth in household spending has strengthened. Since the beginning of the year, the housing sector has continued to improve and the drag from net exports appears to have lessened, but business fixed investment has been soft.Household spending has been growing strongly but business fixed investment has been soft.Drops comments on the housing sector and net exports.
Inflation has continued to run below the Committee’s 2 percent longer-run objective, partly reflecting earlier 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 in prices of non-energy imports.No change.
Market-based measures of inflation compensation declined; most survey-based measures of longer-term inflation expectations are little changed, on balance, in recent months.Market-based measures of inflation compensation remain low; most 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 1.65%, up 0.18% from March.  Undid the significant move from earlier in 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 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 strengthen.No change.
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 past 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 past declines in energy and import prices dissipate and the labor market strengthens further.No change. CPI is at +1.1% now, yoy.
The Committee continues to closely monitor inflation indicators and global economic and financial developments.Near-term risks to the economic outlook have diminished. The Committee continues to closely monitor inflation indicators and global economic and financial developments.No change.
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.  Think of monetary policy as a drug for which a tolerance gets built up.
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; Esther L. George; 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.Back to a small dissent.
 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.Our favorite dissenter returns.

 

Comments

  • This statement was a nothing-burger.
  • 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 and bonds rise a little. Commodity prices rise and the dollar falls.  Everything is a little looser.
  • 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.

Picture Credit Bloomberg

Picture Credit: Bloomberg

=-=-=-=-=-=-=-=-=-

Rates can go lower from here.  For as long as I can remember, I have been told by many experts that rates can’t go lower, or, that they must go up — there is no way they can go lower.  I have argued with that idea, as has Hoisington (Lacy Hunt), Gary Shilling and a few others.

Note also that the Fed and most central banks have been on the wrong side of this as well.  They keep saying that inflation will come, economic activity will pick up, and that interest rates will rise.

The Fed keeps saying that they will tighten policy.  I’ll tell you this — with only 0.82% between the yields on 10- and 2-year Treasuries, the Fed is not tightening.

WIth debt levels as high as they are (both government and private), trying to influence economic activity though interest rates is a dumb idea.  Incenting borrowers to borrow more is difficult, aside from the government — and they rarely do anything with the money that helps produce opportunities for greater economic activity.

We would be better off without “policymakers” trying to “stimulate” the economy, “manage” it, “stabilize” it, etc.  (But where is the political will to change things — the populace wants easy prosperity, and who is there to tell them to accept a rough world where work and competition is tough, and there is no “Big Daddy” to make life easy?  The people are the problem.  The politicians are only a symptom.)

There is one thing that could change this, but it would lay bare the intellectual and moral bankruptcy of what policymakers have been trying to do, which is try to maintain the real value of debt claims while still trying to “stimulate” the economy.  They could burn away the value of debt claims through an inflation greater than that of the 1970s.

So far, they aren’t willing to do that.  But their existing policies will prolong the stagnation.

And as such, rates can fall further — with a lot of noise/variation around it.

Picture Credit: Peanuts Reloaded || Perhaps today Brexit; Monday an exit from Italy or Spain; [then] Europe dismantles

Picture Credit: Peanuts Reloaded || Roughly: “Perhaps today Brexit; Monday an exit from Italy or Spain; [then] Europe dismantles”

=-==-=-=-=-=-=-=-=-=-=-=-=-=-==-=-

At a time like this, when the Brexit Boogeyman goes “Boo!” it’s time to take stock of the situation amid panic.

Though the UK will face some political unrest as the Prime Minister resigns, and article 50 is likely but not certainly invoked, the nature of political discourse hasn’t shifted in full.  Though an important question, it is only one question, and more things will remain stable than change.

At least that is most likely.  If you think of “real options” theory, you could say, “Okay, a door opened today that was previously locked.  What new doors beyond that one could be opened?”  Other countries could leave the EU and/or Eurozone [EZ].  The EU/EZ could dissolve.  The odds of other countries leaving isn’t that high.  For the EU or EZ to dissolve would take a lot of doing, and the odds of that happening is very low, though higher than the odds yesterday.

As I said a week ago:

Governments are smaller than markets; markets are smaller than cultures.

What I am saying is that almost everything affecting the needs of people will get done when there is sufficient freedom.  If Brexit occurs, the UK will negotiate some agreement that is mutually beneficial to the UK and the EU, and most things will go on as they do today.  Even with a subpar agreement, perfidious Albion is very effective at getting what they need completed.  This is especially true of their very effective and creative financial sector in the City of London without which most effective international secrecy, taxation avoidance and regulatory avoidance business could not be done.

Whatever happens, it will happen slowly.  Leaving a complex multinational group like the EU takes two years at least.  How it all works out in detail is not predictable.

I can say that human systems tend toward stability.  People act to preserve the things that they like.  Only under severe conditions does that cease to be true, and even then typically only for short periods of time.

I can also say something a little more controversial.  Wealth, assets, and money [WAM] act like they are alive and have more votes than people do under most conditions.  Why am I saying this?

Governments come in, and go out, but for the most part, the same things get done.  Those thinking that radical change will come are usually deeply disappointed.  WAM tend to maintain the status quo, not because their owners bribe politicians and suborn regulators pay political action contributions,  but because people want the streams of goods and services that help make WAM valuable.  Only a genuine crisis at least as large as the Great Depression or the Civil War can create truly radical change that reshapes the basic desires of most of the people in a nation.

Capitalist democracies that respect the rule of law (e.g., the government is also governed by a higher law) are usually pretty stable; systems that don’t have significant capitalism or democracy may last a couple generations, but tend to fall apart.

All that said, there is significant economic pressure to do two things after the Brexit:

  • Rethink the single currency and common laws
  • Maintain a free-ish trade zone in goods and services

The Eurozone does not allow for the necessary economic adjustments across nations in a fiat monetary system.  Nations need their own currencies, central banks, etc.  They also need to govern themselves via their local culture, not someplace far away with misguided idealists who think they know what’s best for all.

Free-ish trade maintains most of what is needed for human needs.  The European Union is a political construct meant to prevent war from ever recurring in Europe.  The best way to do that is through trade.  Severe wars rare start between nations that rely on each other and interact through commerce.

My view is that ten years from now, the goods and services that people want will get delivered, regardless of the governmental structures in Europe.  I will invest accordingly.

Practical Implications

Things will be rocky in the short run, and there will be more bumps along the road as the Brexit negotiations go on.  I will be resisting panic and euphoria in modest ways.  This isn’t the sum total of my strategies, but I expect that profitable business will continue, and that people and nations will pursue generally intelligent long-term self-interest as events unfold.

When I say modest, I tweak my portfolios at the edges.  Brexit does not comprise more than 5% of what I would do with assets.  As with any investment idea, spread your bets, diversify, don’t bet the farm.

And, I would say the same even to governments — if you don’t have contingency plans for the possibility of the EU shrinking or even disappearing, you are not truly prepared for all contingencies.  As Warren Buffett once said (something like) “We’re paid to think about the things that ‘can’t happen.'”

In closing, many thought that Brexit could not happen.  Now, what else “can’t happen?” 😉

When do you admit that you are wrong?  Do you do it publicly?  Do you hide it?

Do you hide it plain sight?

When I look at the graph for Fed funds for 2017 and later, I think the FOMC is admitting that they were wrong for a long time, and now hide that in plain sight.

They don’t admit that they were wrong.  They don’t admit that the economy has proven to be a lot weaker than they ever expected, and that they now expect that to persist for a while.

That’s what the graphs for Fed funds and GDP say.

central tendency_GDP

But what does the FOMC say in its statement?  It expresses confidence in future GDP robust growth, even though their expectations have collapsed to 2% real growth as far as they care to opine.

Look at the above graph, and see how it has all converged to 2%.

central tendency_PCE

PCE Inflation? They assume it will be 2% before the year starts, and then they adapt to incoming data.

There’s no model here, just a disappointed ideology that says they wish to  produce a 2% PCE inflation rate, dubious as that goal is.

The only thing more dubious there is their ability to achieve their ideology.

central tendency_Unemp

Remember after the financial crisis? There were those who said unemployment would never return to 5% — that the natural rate of unemployment was permanently higher.

I may have been among them.

Well, now the FOMC has a new consensus.  Unemployment below 5% as far as they care to opine.

When I look at these graphs, particularly the ones for Fed funds and GDP growth, I see a paradigm shift where Bayesian priors have been dragged kicking and screaming by the data to No Man’s Land.

Grudgingly they acknowledge the data in the graphs, but they don’t have a theory to go along with it, so their statements and minutes sound the same.

Nothing is changed.  Soon our policies will restore robust real GDP growth, produce inflation and then we will tighten policy and restore normalcy.

Well, that’s what their minutes and statements say.

But who are you going to believe?  The FOMC and their words, or your lying eyes looking at their graphs?

PS — modified to reflect Bullard’s lack of a vote on long-term Fed funds rate.

=-=-=-=-

April 2016June 2016Comments
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.Information received since the Federal Open Market Committee met in April indicates that the pace of improvement in the labor market has slowed while growth in economic activity appears to have picked up.FOMC shades GDP up and employment down, which is the opposite of last time.
 Although the unemployment rate has declined, job gains have diminished.Sentence moved up in the statement.  Expresses less confidence in the labor market.
Growth in household spending has moderated, although households’ real income has risen at a solid rate and consumer sentiment remains high.Growth in household spending has strengthened.Shades up household spending.
Since the beginning of the year, the housing sector has improved further but business fixed investment and net exports have been soft.Since the beginning of the year, the housing sector has continued to improve and the drag from net exports appears to have lessened, but business fixed investment has been soft.Shades up net exports.
A range of recent indicators, including strong job gains, points to additional strengthening of the labor market. Sentence moved up in the statement.
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.Inflation has continued to run below the Committee’s 2 percent longer-run objective, partly reflecting earlier declines in energy prices and in prices of non-energy imports.No change.
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 declined; most 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 1.48%, down 0.25% from March.  Undid the significant move from earlier in 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 strengthen.No change.
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 past declines in energy and import prices dissipate and the labor market strengthens further.No change. CPI is at +1.1% now, yoy.
The Committee continues to closely monitor inflation indicators and global economic and financial developments.The Committee continues to closely monitor inflation indicators and global economic and financial developments.No change.
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.  Think of monetary policy as a drug for which a tolerance gets built up.
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; Esther L. George; Loretta J. Mester; Jerome H. Powell; Eric Rosengren; and Daniel K. Tarullo.Back to unanimity in the monoculture of neoclassical economics.
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. Say bye to the small dissent.

Comments

  • The FOMC meets too frequently. Often the economic signals at one meeting get reversed at the next meeting, as was true this time.  Rather than hyper-interpreting every wiggle, maybe the FOMC should meet every six months, with the proviso that the chairman could call an interim meeting if the situation demanded it.
  • That this is true regarding economic aggregates has been known since the ‘50s. For a variety of reasons, it is difficult to distinguish signal from noise over periods of less than a year.
  • Then again, maybe the FOMC meets to make it look like they are doing something. 😉
  • This statement was a nothing-burger.
  • 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 weaker, and GDP and household spending are stronger.
  • Equities fall and bonds rise a little. Commodity prices rise 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: duncan c || It wasn't my intent initially to compare the words of the FOMC with the scrawlings of a vandal, but ya know some things are surprise fits

Photo Credit: duncan c || It wasn’t my intent initially to compare the words of the FOMC with the scrawlings of a vandal, but ya know, some things are surprise fits

*/*/

I wasn’t surprised to hear in the FOMC minutes that members of the committee thought:

For these reasons, participants generally saw maintaining the target range for the federal funds rate at 1/4 to 1/2 percent at this meeting and continuing to assess developments carefully as consistent with setting policy in a data-dependent manner and as leaving open the possibility of an increase in the federal funds rate at the June FOMC meeting.

and

Participants agreed that their ongoing assessments of the data and other incoming information, as well as the implications for the outlook, would determine the timing and pace of future adjustments to the stance of monetary policy. Most participants judged that if incoming data were consistent with economic growth picking up in the second quarter, labor market conditions continuing to strengthen, and inflation making progress toward the Committee’s 2 percent objective, then it likely would be appropriate for the Committee to increase the target range for the federal funds rate in June. Participants expressed a range of views about the likelihood that incoming information would make it appropriate to adjust the stance of policy at the time of the next meeting. Several participants were concerned that the incoming information might not provide sufficiently clear signals to determine by mid-June whether an increase in the target range for the federal funds rate would be warranted. Some participants expressed more confidence that incoming data would prove broadly consistent with economic conditions that would make an increase in the target range in June appropriate. Some participants were concerned that market participants may not have properly assessed the likelihood of an increase in the target range at the June meeting, and they emphasized the importance of communicating clearly over the intermeeting period how the Committee intends to respond to economic and financial developments.

I was surprised to see some of the markets take it seriously.  Here’s why:

1) The FOMC loves to talk hawk and them be doves.  They don’t think the costs to waiting are significant, particularly given how low measured inflation and and implied future inflation are.  Five-year inflation, five years forward implied from TIPS spreads is not high at present as you can see here:

2) The FOMC is well known for giving with the right hand and taking with the left.  They would like if possible to have the best of both worlds — gentle movement of what they view as key variables, while usually not dramatically changing the forward estimates of those

3) The FOMC’s natural habitat is wishful thinking.  Their GDP forecasts are usually high, and they suspect their policy tools will move the economy the way they want and quickly, and it’s just not true.

4) LIBOR rates have done a better job of the FOMC at estimating future policy, and they have barely budged since the FOMC minutes came out.

5) The FOMC always has more doves than hawks, and that is the way the politicians who appoint and approve the board members like it.  They will live with inflation.  That was yesterday’s problem.  Today’s problem is stagnant median incomes — and looser monetary policy will help there, right?

Well, no, but I’m sure they clapped when Peter Pan asked them to save Tinkerbell.  There is no link between inflation and faster real growth over the long haul.  There may be measurement errors in the short run.

6) They don’t like moving against foreign rates, but that’s not a big factor.

7) GDP isn’t showing much lift at all.

Summary

Unless we have a change in management at the Fed, where they are not trying to manipulate markets through their words, but maybe one that said little and acted quietly, like the pre-1986 FOMC, they really aren’t worth listening to.  They act like politicians.  Let them study Martin and Volcker, and learn from when the FOMC was more effective.

PS — I’m not saying they can’t tighten in June.  I’m just saying it’s unlikely, and to ignore the comments in the FOMC minutes.  What the FOMC says is of little consequence.  It’s what they do that counts.  They are like a little dog that barks a lot, but rarely bites.

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.

-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=

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: Liz West

Photo Credit: Liz West

A friend I haven’t heard from in many years since he left the USA wrote me. He closed the letter in an unusual way, saying:

PS — USA has gone completely bonkers these days? or what the heck is going on over there? would love to pick your mind over a glass of wine. someday!

I’m not intending on writing on politics as a regular habit at Aleph Blog, and most of what I am going to say is economics-related, so please bear with me.  Hopefully this will get it out of my system.

To my friend,

There are a lot of frustrated people in the US.  Though you’ve been gone a long time, you used to know me pretty well; after all, I trained you on economic matters.

Let me give a list of reasons why I think people are frustrated, then explain how that affects their political calculations, and finally explain why they have mostly misdiagnosed the issues, and won’t get what they want regardless of who is elected.

The electorate is frustrated because:

  • Living standards have declined for the lower 80% of society.
  • Many people lost jobs, homes, pensions, etc., during the recent financial crisis… those assets are not coming back anytime soon.  Much of the fault was theirs, but they don’t recognize that, preferring to blame others for their problems.
  • Many formerly attractive jobs are disappearing either due to technological change or offshoring (whether corporations or subsidiaries).
  • The economy muddles along, and economic policies that average people don’t understand dominate discussion.  Many wonder if anyone is seriously trying to improve matters.  They generally distrust the Fed.
  • It doesn’t seem to matter who gets elected, Democrat or Republican — the status quo remains because business interests support the Purple Party, which is the consensus of establishment Republicans and Democrats who duopolize politics in the USA.
  • Nothing good seems to happen in DC, and what few significant pieces of legislation have occurred in the Obama years have turned out to be bad (Obamacare) or useless (Dodd-Frank to the average person who doesn’t get it).
  • Immigration issues get short shrift, also trade issues.
  • Moral issues have basically disappeared from the political agenda in any classical form.  Everything is pragmatic, geared to serve the Purple Party.
  • In general, the candidates are pretty lousy, and the moral tone of the campaign has been poor.  That said, negative campaigning works, and the candidates that focus on being negative are doing better.

Now take a moment and think about what people do when they are desperate.  In short, they take longer-shot chances than they would ordinarily take.  They think:

“This person couldn’t be that much worse than what we have going now, and he sounds a lot different than the politicians that I have been hearing for so many years, ad nauseam.  He talks about issues that affect my situation, and is not willing to mince words.  He could be a LOT better than the status quo, which stinks.  

So, the downside is limited, and the upside could be significant.  I don’t care about the rough edges of this guy; the media always blows things out of proportion anyway, and helps foster the consensus candidates that never solve anything.  So, I’m just going to hold my nose and vote for (fill in the blank).”

In my opinion, that’s why politics is nuts over here right now.  Given the relative inability of the electorate to digest complex explanations, there are a lot of matters that they can’t understand, and as a result, regardless of who they elect, they won’t be happy.

Most of the economic and political problems stem from:

  • Technological change
  • Increasing returns to those that are smart versus those that are not
  • Not enough productive children being born
  • Attempts to improve the economy that don’t work
  • Gerrymandering
  • A diminishing consensus on what is right and wrong, and the proper role of government

The technological change is the most important factor, and explains why attempts to limit immigration or limit free trade won’t help.  As a result of the internet, businesses can set up in many areas and benefit from the different aspects of each area — labor here, capital there, taxes way over there.  Unless governments are willing to work together to limit this, and they compete, they don’t cooperate here, this can’t be solved.

Information technology can make lower skilled workers far more productive, leading to a diminution of jobs in many sectors.  This can happen anywhere — in banks, investment shops, factories, and restaurants.  It works anyplace where you can turn 80%+ of a job into a set of rules.  That can move jobs away from where they currently are to places where inexpensive labor can do the work.

In the short-run, this is a problem for many.  In the long run, it will release labor to more valuable pursuits.  That said, many older people will not be capable of retraining, and younger people will gain the opportunities if they are smart.  the “know nots” are becoming “have nots.”

Part of this is payback for not studying enough in school, and/or studying topics that would eventually valuable in college.  As I have said before, “Follow your bliss” is selfish and dumb.  Real value comes, and society improves, from facilitating the bliss of others.  The more people you make happy, the greater the rewards are.

Now, demographics are getting worse for most developing economies.  Most economies do better when the fertility rate is over 2.1 — i.e., that population is growing.  Typically that means that opportunities are growing.  When working populations shrink, social benefit plans begin to collapse, and when populations shrink, countries lose vitality and creativity.  We need youth to replenish its ranks to keep our societies healthy.

Note that efforts to fix fertility by offering tax incentives do not work.  Once women are convinced it is not valuable to have kids, no reasonable amount of effort will change that.

As for economic policy, we are still running policy off of a model that assumes that debts are not high on order for policy to work.  That is why continued deficit spending and abnormal monetary policy (QE & Zero or Negative Interest Rates) aren’t helping.  Helicopter money has its own issues.

Regardless of what happens to the presidency, Congress will remain the same because of gerrymandering.  There’s only so much that even a good President can do if Congress is occupied by ideologues from both sides of the political spectrum.

Finally, the sides of the political spectrum are further apart because there is less consensus on what is right and wrong, and the proper role of government.  In some ways the internet facilitates this because you can filter out the arguments of those who disagree with you more easily.  I set up my news sources so that I am always reading liberals and conservatives, as well as those that don’t fit well on the political map, but few others do.

And that, my friend, is why the political scene is nuts in the US now.  There are a lot of disappointed and desperate people who are willing to try anything to get their prosperity back, even though none of the politicians can do anything that will genuinely help the situation.

It is a recipe for disaster, and absent an act of God, I don’t see anything that will change the attitudes rapidly.  People across the political spectrum are happily believing their own myths; it will take a lot of pain to puncture them all.

PS — I’ve given up alcohol.  We’ll have to figure something else out if we get together.

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.