Jackson Hole: Yellen Continues Along Her Dovish Ways

Includes: DIA, IWM, QQQ, SPY
by: Valtteri Ahti


The year’s number one event in the macro calendar is today, the 21st of August, as the world’s central bankers convene in Jackson Hole.

Yellen will reformulate why the labour market implies rates will remain as is for an extended period of time.

Markets will be pleased by the promise of extended loose monetary policy.

The year's number one event in the macro calendar is today as the world's central bankers convene in Jackson Hole, Wyoming to decide on how to take over the world. Or at least when the US should raise interest rates by 25 bps. Forget Ukraine, this is where the real action takes place. Giddy central bankers fly fishing and white water rafting whilst tossing DSGE models at each other.

In the late 1970's the good folk at the Kansas City-Fed got fed up with nonattendance at their seminars. They conspired to attract Chairman Paul Volcker by arranging their seminars by the trout invested waters of Jackson Hole, Wyoming. Ever since Jackson hole has become part of macro folk lore and one of the top events of the economic calendar. Paul Volcker was not equally lucky in 1982 as he faced virtual mutiny as he strove to eradicate inflation by plunging the US economy into recession via punitive interest rate hikes. Other highlights include current Bank of India chief Raghuram Rajan spoiling Alan Greenspan's farewell party by warning of dangerously bubbly asset prices in 2005. Ben Bernanke used Jackson Hole to announce his QE programs.

Last year the talk centered on the global impact of the latest QE gambit. Simultaneously emerging markets were used as a punching bag in the ongoing speculation as to when the program would end. Now we know that QE infinity will end in October. Markets have moved on to gambling when Yellen will commence lift off from the zero bound by initiating the first interest rate hike. It all sounds like something from the sci-fi channel.

Monetary forces are divided into two. Hawks - composed of Republicans, Wall Street Economists and Zerohedge readers - think that policy has to be "normalized," i.e. the sooner rates are hiked, the better. Otherwise, when recession strikes again we will be unable to lower rates as we're stuck by the zero bound. Personally I've never understood the logic there. As if one should not take the entire prescribed dose of antibiotics, since then one will have nothing left when the plague returns.

The doves led by Yellen are reluctant to start rate hikes, because they fear that the recovery is still not robust enough to accommodate contractionary monetary policy. The schism revolves around labour markets, which according to traditional metrics - unemployment rate at 6.2 % - would suggest that it is indeed rate hike time. However, the second fiercest depression of the century and a demographic shift have rendered labour market data suspect. The doves claim that as the recovery proceeds people will return to the labour market. The lack of inflation and wage pressure mean that the data is supportive of the doves. As long as price and wage pressure is non-existent she will not risk derailing the recovery.

Hence loose monetary policy continues to be on the horizon. Jackson Hole should see Yellen restate or reformulate why the labour market implies as much. Markets will be happy with this outcome.

In any case the recent overblown geopolitics induced correction in asset prices finds us staring at equity multiples well within the realm of historic norms. Although if one prefers Robert Shiller's rolling ten year valuation measures then stocks are anything but cheap. In other asset classes, credit is still expensive and government bond yields continue to hug 200 year lows.

The old world is handicapped by more conservative monetary stewardship. One fears that ECB head Mario Draghi has the will, but not the means to respond aggressively should we stumble. The European recovery lags the US recovery and continues to flirt with a Japanese type deflationary spiral. Unfortunately European fiscal policy is contractionary beyond what automatic stabilizers generate in terms of stimulus. In any case the times of when fiscal policy was used as a policy tool to smooth business cycles are long gone. Monetary policy is the only game in town. Fundamentally the ECB is unable to act as determinedly as the Fed, because it is politically fragmented. This fragmentation though understandable, bears a heavy economic cost. As the yield spread between US and Eurozone 10 year bonds indicates, the economic divergence between the old and new world is nigh.

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