Fed Policy at the Breaking Point 23 comments
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The Fed's continued policy pronouncements that:
The Committee will maintain the target range for the federal funds rate at 0 to 1/4% and continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.
...have set up a completely-untenable position for The Fed and the greater economy. The problem The Fed and America faces is that this latest "blast of the liquidity firehose" is not limited to the United States in its impact.
Indeed, the problems that this sort of "monetary policy" generates have almost nothing to do with the U.S. economic picture. Rather, they have everything to do with the international nature of markets and monetary flows and the impact that such a policy pronouncement has on them.
Specifically, the United States dollar has become the primary funding currency for carry trades:
“The dollar is the big funding currency,” said Jonathan Clark, vice chairman of New York-based FX Concepts Inc., the world’s largest currency hedge fund, with $9 billion in assets under management. “The reason why people are borrowing the U.S. dollar for carry trade is A: It’s very cheap to fund, and B: The expectation is it’s going to go down.”
This is a tremendously destructive force for an economy, and is largely-responsible for Japan's inability to return to economic prosperity and growth over the last 20 years - the Yen became a funding currency of choice.
But Japan had an advantage we do not - a weak currency benefited to a tremendous degree their exporters, and they are an export-based economy. As a consequence the damage done internally to import prices by the continued downward pressure on their currency was counterbalanced by an improving balance-of-payments picture.
America, on the other hand, has a huge trade deficit. Attempting to reverse this is essentially impossible as we have offshored production to low labor cost locales such as Vietnam and China. We are also absolutely dependent on foreign energy sources and despite 30 years of political promises to resolve that problem we have refused to take the steps necessary to do so, including funding massive nuclear energy development and drilling for all of our currently-known resources as a bridge while those nuclear plants are brought online. There is and has been zero political or public will behind accepting the fact that resolving these problems does not lie in "pie in the sky" battery, solar and wind technologies, but rather through aquaculture-produced bioldiesel, massive nuclear power development and full exploitation of our existing fossil-fuel stores, all of which will cause energy costs to rise and exact what amounts to a tax on the American people. In short we demand not only cheap TVs from China and cheap blue jeans from Vietnam but cheap gasoline from Saudi Arabia, and this combination makes addressing trade imbalance politically impossible.
Depreciating our currency makes internationally-represented firms such as Caterpillar happy, but this is a short-term phenomena, as competing producers in China can (and will) over time cannibalize their sales into that market since their labor costs are so low.
We simply cannot afford to allow a self-reinforcing cycle to become established with dollar-funded carry trades. There is a line beyond which the depreciation in the dollar causes such a trade to become self-reinforcing and extraordinarily destructive. Exactly where that line happens to be is difficult to determine but that a profit/reinvestment cycle "kneepoint" exists is axiomatic.
Should we reach that point the dollar will come under attack in the FX markets to a degree that is literally impossible to stem. FX markets move a couple of trillion dollars a day - intervention in those markets is both insanely expensive and futile over any material amount of time.
This is what those who are sounding the alarm over a potential currency collapse see in the future - and the risk they are speak of is in fact very real.
The only real means of defense against such a self-reinforcing cycle is to limit the number of dollars in circulation. This means raising interest rates - either formally or effectively - through withdrawal of liquidity - forcing an unwind of these trades and raising the uncertainty level high enough that traders will not risk ruin - in other words, we must transform a near-sure-thing to a likely-bad outcome.
This is the flaw in Benranke's central thesis - that The Fed can continually respond to challenges in the economy by making money "cheaper" with each iteration. History shows that indeed this is exactly what Bernanke and his predecessors have done, both formally in the Fed Funds rate and informally through intentional and willful loosening of the constraints on leverage and lending.
Yet this is a road that leads, ultimately, directly to Hell's Gate and somewhere along the line is a one-way trap door.
There is a limit in the economy on debt service at a given level of GDP. The available "slack" between the current interest rates being charged and the maximum sustainable interest rate before default becomes inevitable is the "safety margin" that allows monetary policy to work.
By intentionally eroding that margin over time The Fed has now backed itself into a corner; it reached the "zero rate" boundary and yet wanted even more easing, so it began monetizing debt.
This is as clear of a declaration you will ever see that the economy will not support higher interest cost even with the formal Fed Funds rate at zero.
In aviation circles there is a concept called "the coffin corner" where one approaches the speed of sound in an airframe that is not rated for transonic operation. Briefly as altitude increases the speed at which the plane must travel to produce sufficient lift to keep the plane in level flight goes up. Yet lurking up there is the critical mach number - the point where airflow over the wing approaches Mach 1 (a wing produces lift because the air going over the top surface must travel a greater distance, and therefore there are fewer molecules of air present in a given area over the wing than below - thus, lift) and produces a dramatic increase in drag and/or change in the pressure gradient. If the pilot increases speed to compensate for the loss of lift at higher altitudes he gets closer to the point where loss of control happens due to the latter phenomena. When that margin gets too small something as simple as an ordinary turn (which causes a change in the apparent angle of attack between the inside and outside wings) or turbulence can cause the plane to either exceed its critical Mach number or experience a stall, leading to loss of control.
This is the sort of "needle-threading" exercise that Bernanke is now engaged in, yet he continues to press the envelope further and further, intentionally ignoring the hard numerical facts that continue to mount. We have exceed the maximum debt-carrying capacity in the system and are now turning to outright fraud to hide defaults and insolvencies that have already occurred.
This is an unstable circumstance that must not be allowed to continue. Rather, the authorities must insist on the immediate reduction in systemic leverage and the recognition of hidden defaults, even if this forces major financial institutions out of business, accepting the damage that will accrue to the economy.
The reason for this need is clear: The damage we have accumulated over the last 30 years remains smaller than the damage we will take going forward if we do not quit screwing around. The current loss is the best and in fact smallest loss. This was true in 1987, it was true in the 1990s, it was true in 2001 and was true in 2007.
We have a 30-year unbroken time line of proof that attempting to hide systemic damage and bad debt does not make it go away -- it simply hides it in the corner and then piles more bad debt on top of it.
Those who have claimed that we "must not" disrupt these large institutions and that such would cause "unthinkable" economic damage have been repeatedly caught telling only half the truth.
Yes, the damage will be severe, but that is in fact precisely why we must accept it now: it has only gotten continually worse since the 1980s as we have continued to hide rather than accept this damage, and those who have claimed to be able to prevent and reverse the damage have repeatedly, over a 30 year time span, been proved wrong.
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What Karl is saying is that your attitude is what got us here. There is no pragmatic fix. Ths best fix we have is to take our losses now. Obama, Bernanke and company by trying pragmatic fixes have delayed our judgment day , but they have doubled or tripled the cost and duration of the pain. The more we allow Obama and Bernanke to put their political desires in front of the needs of the American people, the greater will be the cost and the pain!
How do you reconcile the outlook of a US dollar currency collapse, with your general investment strategy of "short the phone book"? You are shorting equities and shorting commodities while long the US dollar and at the same time you expect a dollar collapse? Where is your logic?
The outcome of a US dollar collapse is now all but unavoidable. Give me all the political power of the world, I would not be able to avoid a US dollar collapse. No living person on the earth has that capability. The dollar collapse is now inevitable.
Just think about it, the current US debt, standing at $12T, at current US dollar value, is equivalent to 12 BILLION ounces of gold, or 373,239 metric tons of gold, or 100 years worth of global gold production. For the US government to pay back that debt, in REAL PURCHASE POWER TERM, means the US government needs to tax the American people in excess of all the services it provides to the people, for an excessive amount equivalent to 373,239 metric tons of gold, or the equivalence of goods and services. That is physically impossible. The world does not even have enough remaining natural resources to allow such amount of excessive fortunes to be accumulated.
Paying back the US debt in real term, CAN NOT be done. It can only be done through massive taxation and huge cut of spending. When this is done, it will drive all the market capitals to escape US soil to avoid the heavy taxation, leaving this country in the state of a poor third world country, with no tax revenue to be collected and millions of angry and hungry people to be feed. That in term, will drive the US dollar to the ground any way.
The only way of salvaging this country, is try something that will attract market capitals to come back to American soil and invest here. I do not see it happening. The policy of current administration causes exactly the opposite effect.
seekingalpha.com/autho...
As for the world's energy future, Cold Fusion is the only real solution. What Karl propose is to deplete our remaining fossil fuel even faster and hence doom our future even quicker. Cold Fusion is one the reasons I am extremely bullish in the precious metal palladium, and the mining stock SWC.
I could not agree more with your assessment.
The only wild card, as you mentioned with cold fusion, is technology.
If someone in the US comes up with something so fantastic that it alters the megapolitical landscape in our favor, then all bets are off.
This is the only possibility that gives me hope for the future.
What's your most recent Tellurium quote?
And no, our debt isn't $12 trillion. Interagency is not real debt. Go see case law on FICA and Medicare; those are in fact mere taxes. (Yes, really - litigated several times all the way to the USSC.)
The ACTUAL US Debt is in the $6 trillion range. We can cover the service on it, but what we can't do is more than double it in the next decade. The exponential curve cannot be fought to that degree - it will collapse on us if we try, but it won't be the Government side that blows to bits first.
As for your claims that I've been "shorting all the way up" you need to get a life - and a reality check - and stop repeating a lie. Repeating lies over and over do not make them truths. I was long from within 10 handles of the 666 bottom up into the upper 800s. I am NOW short, but the reason for that is simple: This advance is unsustainable and no, I do not believe in hyperinflation. The mechanism to make it "work" (that is, to couple back to wages) no longer exists in the US and hasn't since unionized labor was effectively destroyed in the 1970s and 80s.
really there is nothing like it! The west is fucked up and it will 30 year before it recovers. ther is so many greta places beautful country low cost german beer great 5 star homes under 100,000 and well if you single!!!!!!!!!!!!!!!!...
the air is clean the sea food is great the future GDP is up. why live in in Japan you want to feel the stagflation of the last 30 years of your life NO! even if the bubble breaks here it is till a get rich place. You can write and post at higher speeds.
There is 1 miilon nice cafes, australian wine, german beer, hungarian suasage.
Inflation: hungry consumers chasing consumer goods and services inflating in price.
deflation: hungry consumers saving money for fear of a future of declining prospects.
We had 18 years of inflation, from which we are now trying to recover.
On Sep 26 08:12 AM Karl Denninger wrote:
no, I do not believe in hyperinflation. The mechanism
> to make it "work" (that is, to couple back to wages) no longer exists
> in the US and hasn't since unionized labor was effectively destroyed
> in the 1970s and 80s.
It's very creepy stuff. Even worse is that these people and their ilk have been kept in place. The MSM that parrots their lies isn't improving. The money and power is in all the wrong places and they can still buy and influence whoever they need to.
They've had a "sure thing" regardless the deterioration on Main St. to levels I wouldn't have dreamed possible, but they are in the "coffin corner" as the article aptly explains. They're playing with nitroglycerin, considering the state we're in. Will it remain, heads, they win, tails, we lose?
Personally, I don't think they're idiots. They're a group of greedy animals who are masters at lining their pockets at the expense of good human beings.
having financed several projects using the carry trade currency Yen, there are a few flies in the ointment
- a carry trade currency must be stable or must continuously devalue. if the carry currency fluctuates, you end up needing to hedge your loan which adds costs.
- i could borrow from a Japanese trading company under 2% (one time under 1%). no one other than a bank has access to funds at this low level in America - and a bank surely is not going to loan it to a private party or business at this low rate.
These are flies in the ointment, not roadblocks to carry trade. If you read between the lines, you can see that American banks and foreign banks who have access to the fed's zero rate window can manipulate money offshore to fund lending on other continents.
What i am saying is the dollar will never achieve the same levels of carry trade as the Yen because of the structural differences between lending in Japan and America.
But that does not mean it will not happen, and if somehow Japan can get itself out of ZIRP - then all bets are off. however, this is highly unlikely as I believe once you kiss the devil there is no going back.
I believe we are courting demons with the Fed's ZIRP. The longer we stay in this policy, the more structural damage will happen if we are ever to escape. This is the position Japan finds itself in, and we are well on our way to their position.
You put it really well. I'm sure a lot of SA folks myself an example have had these thoughts in our heads and chests, and you've just so eloquently spelled them out. Congratulations for a mini-masterpiece.
It is fairly standard practice isn't it? I mean for those in power will only use their power to sustain serving their interests first. We've been bailing out ourselves and creaitng lots of Bubbles for a long long while - all the outsourcing, massive immigration, amesties, S&L crisis, CEOs demanding eight-figure salaries and bonuses, you name it, the list goes on and on. There is a whole big-picture "THING" that I just don't want to elucidate here, but to sum it up - like the old saying "The Corporation Giveth, the Corporation Taketh it Away."
It is getting late here. I am going to do what ArtfulDodger did, go to bed and put the blanket over my head...
I never made the claim that you "short all the way up". That's not the words I used. I made the claim that you have been "short the phone book". And clearly you remained in that stance so far as you did NOT deny that you were still "short the phone book". You claimed to "short the phone book" ever since May 21, 09 and you have NOT changed your stance ever since:
market-ticker.denninge...
I was really impressed at the time because that was the first time I learned this new English phrase "short the phone book". You were probably the first one on internet who invented that phrase. I wondered for a few seconds why you would short telephone book publishers (because of drop of ads revenue?) before I realized that you mean you were shorting the general equity market.
How could you make the case of "short the phone book" when there is a case of dollar collapse? Where do people put their money, if not in equities and physical assets?
As for Cold Fusion, it is easy to trivially denounce the idea as a lie and push it aside if you only spent 5 minutes reading some where some one claimed it was a hoax. Try to tell that to hundreds of scientists who persisted in cold fusion research for 20 years, and who saw the real experimental phenomena with their own eyes repeatedly. You think these researchers are all mentally ill? There have been no report of any Cold Fusion researchers who turn from a believer to a skeptic. There have been plenty of skeptics who, after spending mroe time studying the experiments, become Cold Fusion believers. Watch this CBS 60 Minutes report aired on April 19, 09:
www.cbsnews.com/video/...
More readings here:
www.newenergytimes.com/
I think for modern civilization to continue an energy intensive life style like what we enjoy today, Cold Fusion is the only solution.
Back to Karl. Could you answer with a straight yes or no:
1. Are you still bullish in the US dollar and US treasury bonds?
2. Are you still "short the phone book" in the general equities market?
3. Are you still bearish on commodities and precious metals?
4. Do you still stand by on what you said on May 21, your first post of "short the phone book"?
On Sep 25 06:39 PM Mark Anthony wrote:
> Karl:
>
> How do you reconcile the outlook of a US dollar currency collapse,
> with your general investment strategy of "short the phone book"?
> You are shorting equities and shorting commodities while long the
> US dollar and at the same time you expect a dollar collapse? Where
> is your logic?
>
> The outcome of a US dollar collapse is now all but unavoidable. Give
> me all the political power of the world, I would not be able to avoid
> a US dollar collapse. No living person on the earth has that capability.
> The dollar collapse is now inevitable.
>
> Just think about it, the current US debt, standing at $12T, at current
> US dollar value, is equivalent to 12 BILLION ounces of gold, or 373,239
> metric tons of gold, or 100 years worth of global gold production.
> For the US government to pay back that debt, in REAL PURCHASE POWER
> TERM, means the US government needs to tax the American people in
> excess of all the services it provides to the people, for an excessive
> amount equivalent to 373,239 metric tons of gold, or the equivalence
> of goods and services. That is physically impossible. The world does
> not even have enough remaining natural resources to allow such amount
> of excessive fortunes to be accumulated.
>
> Paying back the US debt in real term, CAN NOT be done. It can only
> be done through massive taxation and huge cut of spending. When this
> is done, it will drive all the market capitals to escape US soil
> to avoid the heavy taxation, leaving this country in the state of
> a poor third world country, with no tax revenue to be collected and
> millions of angry and hungry people to be feed. That in term, will
> drive the US dollar to the ground any way.
>
> The only way of salvaging this country, is try something that will
> attract market capitals to come back to American soil and invest
> here. I do not see it happening. The policy of current administration
> causes exactly the opposite effect.
>
> seekingalpha.com/autho...
>
> As for the world's energy future, Cold Fusion is the only real solution.
> What Karl propose is to deplete our remaining fossil fuel even faster
> and hence doom our future even quicker. Cold Fusion is one the reasons
> I am extremely bullish in the precious metal palladium, and the mining
> stock SWC.
Sincerely - this sort of article full of conspiracy and amateur economics is mostly nonsense. And yet I am compelled to deal with some of it.
Most of the claims are laughable and only would be taken seriously by the most extreme cranks - many are above me on this thread. You know who you are but there are two issues that deserve some attention because they are in the mainstream of thought and are becoming obsessions.
"Energy independence as a panacea". Somehow the thought goes - we build a dyke around the US - keep out the imported energy and produce more or all ourselves and somehow this is a good thing. This is a sort of protection. All forms of protection are in fact discriminatory taxes. So in short a discriminatory tax on foreign energy will be part of the solution. It is just so easy - let's do it. The first thing that happens is that a lot of capital get's sucked out of productive investment into less productive sectors - productivity is lowered - industries and sectors that are starved of capital shrivel or move elsewhere. Prices rise and shortages develop. Oh and the geo-political situation is made worse. Get it into your heads. Having cheap oil and other energy be produced by people in other parts of the world and delivered here for less - much less - than it could otherwise be produced and in greater quantities - is a good thing.
"Outsourcing is evil and the cause of the trade deficit". Very quickly because Professor Denninger will not go into it this is how this works. Where stuff is made is a function of productivity and labor cost per hour. The US has higher productivity compared to China - let us say it is 5 times as high. The US also has higher wages - let us say that it is $20/hour in the US and $2/hour in China. To make a widget the cost in the US would be $20 the cost in China would be $10. On that basis - everything will be made in China and nothing will be made in the US. For an equilibrium to be achieved US productivity must double or the currency must devalue 50% or wages need to come down by half otherwise unemployment will be 100% in the US. Productivity in the US is improving and the currency is devaluing and wage growth is flat but none of these factors are moving to the extend needed. Many of the jobs that are done for $2/hour in China cannot be done in the US anymore. The widget or service does not command a price that will enable a US worker to do it at almost any level of productivity and maintain a reasonable wage level. So what is happening? Simply stated the US has outsourced the sloughed off the less skilled jobs to China and has traded up to a higher level of skill and knowledge intensity. Unemployment in the US is not 100% or 50% it is 9% and is not going to get much higher. Wage rates here are still way above those in China and productivity is growing. This "miracle" is actually achieved because companies have the freedom and flexibility to outsource - by outsourcing they "average up" the knowledge and skill level - enabling them to pay more etc. The leftists talk about a "race to the bottom" but the opposite is true. The facts bear this out. My mother was a seamstress - in the '60's she worked +40 hours per week for relatively little money. These days most of those jobs are in Bangladesh, China etc and are good jobs in those countries paying "high" wages. In this country women and men have moved up the curve - if she were working these days she would be a designer or buyer or handling logistics - she would have a degree vs. a high school diploma and she would make about 5 times as much. That is how economies work. That is how growth happens.
People who don't understand these basic concepts should not be opining on Fed policy. Which has actually been very strong but that would take way too long to explain. You'll just have to trust me.
On Sep 28 06:14 PM Karl Liesman wrote:
> User 402998,
>
> I know you represent most of Denninger's followers, anonymous and
> repeat trolls. Instead of critiqueing language, why don't you take
> time to understand the substance.
>
> Mark,
>
> You are absolutely correct. How can Denninger even claim to have
> made any money when simply following the paper trail here at SA shows
> that his articles and proported long positions just don't jibe.<br/>
>
> Karl, the truth shall set you free. It is obvious you are a poor
> 'market analyst'. The only one pulling that 'extend and pretend'
> stuff is you.
>
> Who knows what you are working for, but I wouldn't be surprised if
> there has been a Hedge Fund invasion at your Ticker board to make
> your lemmings lose their grandmother's money. You owe your lemmings
> an apology. And you need to come clean about your paper trading.
> No one believes you anymore.