There Needs To Be A Chinese Wall Between Monetary Policy And Markets (Video)

by: EconMatters

The Paul Krugman "if we only do more ZIRP" model has officially and finally been proven a failure with absolute certainty. Anybody asserting this economic nonsense should be embarrassed by the academic community writ large. New legislation is required for restricting Central Bank authority going forward.

Central Banks are doing the exact opposite of what they should be doing, causing the very conditions they are trying to fix through continued policy methods of ZIRP and asset purchases. Not only are Central Banks the initial cause of the existing deflationary growth spiral around the world, they are exacerbating the problem by doubling down on ineffectual policy, and thereby causing additional downward impetus to the negative feedback loop of inefficient capital allocation choices by investors and capital markets.

If you want to spur growth around the globe, start respecting capital, pay a respectful interest rate for capital, positively reinforce investors to put capital to work in the actual economy with real growth projects and not stuck chasing low-margin yield strategies in bond markets further reinforced by Central Bank Asset Purchases - this is the definition of capital hoarding and is deflationary for global growth from a capital allocation standpoint.

The Japan economic model has failed, and the closer other Central Banks come to emulating this model, the more their economies will resemble Japan's slow-growth economy. I realize this is a hard concept for economists to get, because it is slightly counter-intuitive to economics in general, but makes sense when talking about setting incentives for financial markets and capital investment choices. If you want to incentivize positive investment strategies and get this money out chasing real growth opportunities, you don't do this with negative interest rates, but the exact opposite - you do it with higher interest rates. You don't effect this change in investor behavior by charging interest on deposits - that is backward thinking policy. You just raise interest rates dramatically around the world and watch what happens to all this hoarded capital in storage around the globe in the banking and financial market system.

Because we are just not talking about the banking system, but financial markets as well, which have become inexorably linked and meshed with the banking system, even more so with the advent of ZIRP. A low interest rate has negative consequences that reverberate throughout the entire financial market system, eventually resulting in what we have now - a capital hoarding bubble just on the verge of a tipping point of absurdity, reflected in the German 10-Year Bund today finally going negative in one of the best-performing economies in Europe.

Forget about providing the necessary conditions for the next financial market instability black swan event, ZIRP and asset purchases just plain don't work on any extended time frame past an emergency liquidity shortage phase of 6-8 months. Where is the academic community in all this as well? We have over 30 years of documented evidence that ZIRP fails miserably, it has been proven an incorrect strategy in promoting economic growth. It has actually been proven to stimulate and stoke deflationary pressures in an economy through poor incentives from a capital hoarding and capital allocation perspective. Furthermore, it provides massive disincentives throughout the price discovery function that the financial markets were originally intended for.

I am in favor of new legislation restricting the influence and authority of Central Banks, at least in the United States, to meddle in financial markets. They should never be allowed to purchase any financial assets, period. This interferes with the market structure from both a price discovery process and risk profile.

I think they have slowly been allowed more influence into financial markets over the years, and have finally completely destroyed financial markets' pricing ability, which is abundantly clear with the German 10-Year Bund being negative in an economy that is actually not in a-once-in-a-lifetime recession. The ECB buying corporate bonds is just absurd. This is not the role of any central bank, period.

We have proper checks and balances for every part of the government, at least that is the stated goal with the legislative, executive and judicial branches. But the Federal Reserve, originally just providing economic guidance for fiscal policy measures and setting the Fed Funds rate, has slippery sloped all the way into buying financial market assets, and if not "walked back," who knows what else they would try from an extreme policy experimental standpoint! It is normal from a business cycle standpoint, and even healthy, for economies to actually go into recessions.

You do more long-term harm to an economy, as witnessed in Japan's monetary disaster, by trying to address normal and healthy economic weakness with extreme Central Bank solutions to try and artificially prop up an economy on a short-term basis and prevent the cleansing and healing process of the economic business cycle, which is crucial to promoting an upward trending long-term growth profile.

As a long-time market participant, I respectfully want the Fed out of financial markets. No more financial asset purchases, and normalize interest rates to non-recessionary conditions - start respecting financial capital. It sets a bad precedent when you have absurdly low interest rates for any period of time, let alone 2 years to a decade - and in Japan's case, 30 years!

Frankly, what Central Banks have done to financial markets is criminal in nature, and why should we be surprised, as a PhD in economics is not a PhD in financial markets. This distinction has played out in broken market structure. At this point, if the Federal Reserve as an unelected body isn't scaled back in their influence and effect on financial markets, then we would be better off with the establishment being discontinued altogether.