Trichet, ECB Missing the Point with Crude 13 comments
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Upon reading headlines from yesterday's (June 5th, 2008) ECB meeting with comments from Jean-Claude Trichet as "We considered that... that after having carefully examined the situation, we could decide to move our rates (by) a small amount in our next meeting," I can't help but see this as absolute confirmation that the ECB is not backing up the Fed, and additionally has their eyes off the ball.
Statements and attitudes such as this put an upward bias on long rates as Euro bonds attract money flows instead of treasuries. This is obviously the last thing the Fed wants if it is to have any meaningful impact providing a stable floor for home prices via interest rate policy. Despite cooperation displayed for TAF with European banks, it tells me there is a tug-of-war of sorts between ECB and Fed policymakers.
The surprising dollar and inflation hawkishness out of Ben Bernanke himself these past several days suggests that ECB hawks may have tipped him off in advance, implying that perhaps Trichet and company are sounding hawkish as a means to politically please their own direct constituents. After all, the worldwide inflation push driven by high oil prices is noticeable to plenty besides merely central bankers.
These comments seem justified in an effort to fight inflation. But yesterday's immediate reaction was likely the exact opposite versus original intention: Crude (the source of all this cost-push inflation) made a record $5.00+ move up in its somewhat predictable way with Euro correlation. In the end this may be moot, as an oil bubble caused by speculative hoarding versus actual supply shortfall will not be sustainable, and will eventually result in a price collapse (due to logistical limitations in price maintenance of such a bubble).
The mismatching amplitude of these moves suggests the Euro zone did not benefit from these comments. With the EuroUSD pair only strengthening by 1.3% today (1.54 to 1.56), crude moved in high beta with a 4.9% move (122 to 128). That means crude was up at least 3%+ in some Euro terms today. The jury is still out whether these moves in crude are justified by genuine supply concerns versus speculative fervor, but the coincidental correlation of the Euro and crude does little to convince the casual observer that the crude oil markets are not beholden to speculative price manipulation tactics.
Continued Euro strength and ascending long note/bond rates that result from mismatched interest rate policy (with the ECB raising while the Fed is on hold) does immeasurable damage to the EU's export sector in addition to prolonging the US housing downturn. Judging by Crude's high beta correlation to Euro strength and US Dollar weakness, the strong Euro has done nothing to thwart crude's ascent. What makes ECB managers think this correlation would suddenly change? My suggestion: The ECB should realize this and consider the danger of publicly diverging interest rate policy with the US, at least in the near term deferring hawkish tone in exchange for accelerating the pace of discovery of the status of the character of the price ascent in crude.
Since the days of Volcker, it's clear that high interest rate policy is a blunt instrument of aggregate demand destruction, having unintended consequences itself, mainly wreaking havoc on the world's job markets. Reducing money supply via massive rate hikes is merely a method of bluntly downsizing economies to force any and all supply problems into no longer being a supply problem. This policy style functions effectively the same as the destructive forces from war, disease, or famine. If you have less units of consumption (aggregate demand), any supply shortage can easily become a supply surplus.
I am of the camp that supply shortages should and can be worked out on their own, even if threatening to spur trends that appear inflationary in the near term. Crude oil price needs to get high enough to force product replacement and productivity increases that result. Imagine the alternative of destructive interest rate policy whereby users of crude are forced to discover a cheaper and more efficient method of energy production and consumption (conservation?), encouraging a switch away from crude. Wouldn't that be a deflationary pressure, all without central bank intervention?
A free market can do this on its own, and is the very impetus for human advancement. If these oil prices are indeed entirely supply shortage driven, I can think of much better fiscal and government policy methods to solve this oil problem without resulting in more blunt economic destruction. Developed countries can afford massive government subsidies to force product demand replacement (i.e. nuclear and solar infrastructure build-out with electric and hybrid cars becoming the new fuel consumers). Additionally, they can use political will to strong-arm developing trade partners (China) into removing subsidies that encourage otherwise unsustainable and economically unprofitable end user waste and demand.
Instead, we live in a world where bankers and policy makers are flying solo instead of working together. The results of this disconnect will be disastrous if continued.
Disclosure: None
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This article has 13 comments:
Damn skippy!
So all the disastrous policies of the US banking system are suddenly a problem of the EU. Well, it already is, so excuse us for taking our own measurements.
Inflation is primarily created by creating too much money. Controlling the money supply will control inflation. We saw all that already in the seventies. Creating an inflated M3 and lowering interest may have bought some time and a speculating bubble in housing, all of which helped the consuming-machine going, but it all was bound to end someday. And it did, big fashion. Now it's time to face the music & stop blaming Trichet or whoever.
S&J.
The dollar is still too high, which allows the US to continue to import more goods than it exports, which exports inflation to the Eurozone. Each time some indebted U.S. consumer takes out a home equity loan and buys a BMW, dollars from that sale are exchanged for Euros at a central bank, and those Euros in turn are used to pay workers who cannot buy that car they just made, because it is has been sent to the U.S. More money chasing too less stuff equals inflation. So the high dollar is part of the EU inflation picture and must be addressed. ECB interest rate hikes assist in that necessary correction; they are not mainly aimed at putting the brakes on Eurozone economic activity. The ECB's main concern with the dollar's decline is that it be orderly, not that it be stopped.
But Tricky raising rates here doesn't "protect" the Europeans if the dollar gets screwed. Everyone suffers in that environment. Oh, wait, you believe in decoupling. Right.
The mission statement of a central bank is to support its currency. To suggest that the ECB must pander to the US central bank problems as some poor relation only tells me of your American arrogance. Bubbles Greenspan and his stepchild Helo Ben are beginning to reap what they have sown. You can only pour on so much money and cheap credit before there is a tipping point and inflation eats its way into the bubble. The ECB has made connected moves with the US to try and keep a sinking ship afloat, but now they decide to worry about their own ships. To cast dispersions upon them for American stupidity is really nothing more that bold faced American arrogance at its worst.
Get out of the blame game and start facing reality. Today is June 6, D-Day. Let me see, the headlines were death of SUV, GM closing 4 SUV plants and laying off 10,000, the biggest jobless jump since 1986 and oil moving toward 150. Wake up and smell the coffee, and don’t blame the ECB. A new reality is hitting the American beaches today, and don’t blame the Europeans. You might just need their help later.
Remember that speculative money is out of stocks and bonds, looking for a home. That $240B (or whatever the # is) is now pumping commodities.
Also considering the destruction of wealth and reigned in credit (slower velocity of money as well), I am not sure total money supply is so 'pumped' as of recent despite what shadowstats might suggest. Whatever has been sent to the system offsets the hundreds of billions of wealth that have already disappeared (or been transferred to 'subprime' assetholders).
I agree the EU should look out for itself, and it should not have to pay for US policy recklessness as well. But at the same time, my criticism focuses on two issues seperately: 1) rate policy may be ineffective versus actual coordinated world energy policy (and this should have been done a long time ago), 2) the EU is now not backing up the Fed, but they were months ago. The EU has not decoupled from the US economy, and erroneous moves have negative ramifications for them as well, despite the wave of anti-US dollar sentiment that is so popular now.
Lets get serious:
The mandate of the ECB is as next:
1) Keep core consumer inflation below 2%
2) Keep money growth below 4.5%
Right now M3 money supply is still in the double digits stoking inflation further. Don't forget that M3 money growth is the USA is still far higher, estimates say it could be 20%.
Always when European M3 money growth is published there are some smart American asses that say 'Hey, the Euro is overvalued because of the tremendous M3 money growth'.
They forget that the FED by long has stopped publishing M3 money growth because 'the costs outweigh the benefits'.
At last there is a solid reason to raise European rates:
The value of the Euro will rise enough to compensate for all possible imported inflation from US$ dominated regions.
A rate would also give a clear signal to the FED as to stop with this madness of far too low rates that even drive pension funds from government bond markets to food markets.
Come on; the combined US financial sector has over one US GDP of debt outstanding, they might need these low rates but this has nothing to do with European consumers...