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Economy Title: The Truly Scary Clowns Are Central Bankers It’s a plague that besets our nation, threatening our peace, the safety of our children, indeed our well-being. I speak, of course, of clowns. Creepy clowns, lurking in plain sight. Not some ghastly figure with Oompa Loompa orange skin and a petrified crown of yellow hair, or a seemingly staid matron with a horrifyingly cringe-inducing cackle when amused. No, these are circus-like clowns with painted-on grins, albeit incongruently fearsome ones. They’re popping up everywhere, causing panic among the populace and grim warnings from the authorities in what purports to be the land of the free and the home of the brave. There also is a current of disquiet running through the financial markets, one less visible but nonetheless palpable. It might be described as taper tantrum 2.0, a reaction to the intimation from the world’s central bankers that eight years after the global financial crisis, the time may finally be approaching to move away from crisis policies. Those include ultralow interest rates, including some below zero, which had never previously been imposed as a deliberate policy. Those policies also include massive securities purchases by central banks, which can conjure the dollars, euros, yen, or pounds to buy bonds by the billions with just a mouse click. Medieval alchemists would at least have needed lead to turn into gold for their presumed magic; their modern central-banker counterparts accomplish the same with zeroes and ones coursing through computer code. The central bankers’ conjuring, for all of the paper wealth it has created, has produced much less than expected in terms of jobs and output. But some academics assert that this is because the medicine should have been administered in even stronger dosages. Former Treasury Secretary Lawrence Summers recently endorsed having the Federal Reserve purchase corporate debt and equity securities, a move that Janet Yellen, the U.S. central bank’s chair, indicated wouldn’t be out of the question in a future crisis. A backlash appears to be developing, however. There always have been dissenters to the notion that money printing, to use the pre-electronic-age parlance, could produce real prosperity. These critics mostly toiled far from the groves of academe and apart from the mainstream of financial economists. Most recently, their gripe has been that whatever inflation has occurred has been mainly in asset prices, which has failed to produce the general benefit predicted by monetary officials. Most famously, former Fed Chairman Ben Bernanke asserted in a 2010 article published in conjunction with the second phase of the U.S. central bank’s quantitative easing, or QE2, that the program would boost stock prices and lower long-term interest rates, which in turn would spur housing and consumer spending. QE2 begat QE3 and the expectation of QE4-ever, as I’ve dubbed the notion that central banks would pump in liquidity to keep asset prices aloft ad infinitum. But that idea appears to be meeting resistance in the real world. In a sharp criticism of current economic orthodoxy, British Prime Minister Theresa May last week pointedly spoke of policies’ “bad side effects.” After the crash, “superlow interest rates and quantitative easing” provided “necessary medicine,” she acknowledged. The after effects had been unintended, however. “People with assets have got richer. People without have suffered. People with mortgages have found their debts cheaper. People with savings have found themselves poorer,” as May astringently summed up the situation, which applies not only to the United Kingdom, but also to much of the English-speaking world, including the U.S. Monetary policy has attracted political criticism rarely witnessed in more than a generation. Central bankers previously had been accorded an exalted stature, from former Fed Chairman Alan Greenspan pictured on magazine covers as part of the Committee to Save the World; to Bernanke, who was named Time magazine’s Person of the Year in the wake of the financial crisis; to “Super Mario” Draghi, president of the European Central Bank, for his vow to “do whatever it takes” to preserve the euro; and Mark Carney, head of the Bank of England, for providing a steady hand in the wake of the turmoil after the June Brexit vote. Republican presidential nominee Donald Trump has recently derided the Yellen Fed, contending that its policies aim to keep the economy and stock market aloft until the president retires to the golf course in January. Whatever the impetus, the major central banks may be pondering a fundamental shift in their policies. First came the announcement a few weeks ago by the Bank of Japan that it would begin to target the yield curve of the Japanese government bond market, specifically aiming for 0% on the benchmark 10-year JGB until inflation reaches its 2% target. That marked a shift from targeting a quantity (of bond purchases) to targeting a price. Which means the BOJ would buy only as many securities as needed to keep the yield at 0%—rather than a preset amount, which could send the yield further into negative territory. Last week, Bloomberg reported that the ECB is considering gradually reducing its securities purchases. Bank officials said the idea hadn’t been discussed. In any case, the 10-year German Bund’s yield moved up sharply over the week, back above zero percent. Government bond yields around the globe rose in tandem in what sounded like an echo of the so-called taper tantrum—the bond market’s swoon in mid-2013 when the Fed signaled that it would begin to wind down its securities purchases in QE3. The 10-year Treasury yield then soared to almost 3%, a jump that rippled through other markets. At a Grant’s Interest Rate Observer conference last week, Jeffrey Gundlach, DoubleLine’s CEO, commented on the growing belief that interest rates will “never” rise. When it’s said that something can “never” happen, it’s about to happen, he argued. Zero or negative interest rates are doing more harm than good, he continued, with the long decline in the stock of Deutsche Bank (ticker: DB) being an example. You can’t help the economy by bankrupting the banks, he contended, which is the effect of shrinking their net interest earnings. For these and other reasons, Gundlach suggested, the lows in bond yields were seen in the post-Brexit plunge in the 10-year Treasury to 1.36%, a hair under the nadir of 1.38% touched in 2012. (Some data providers have slightly different numbers, but they’re as close as “damn it” is to swearing.) The more important inference is that major trend changes are at hand. As described by Bank of America Merrill Lynch global investment strategists led by Michael Hartnett, we may be witnessing “peak liquidity.” That is, the era of excess liquidity from central banks is ending, which is consistent with shifts in ECB and BOJ policies, the U.K. Prime Minister May’s criticism of QE, and the likelihood of a Fed interest-rate hike in December. In addition, the BofA ML strategists also point to “peak inequality,” which would spur fiscal actions, such as greater spending and income redistribution. Finally, they see “peak globalization,” as populism counters the “disinflationary free movement of capital, trade and labor.” The sum is “peak returns” from financial assets, the BofA ML team concludes. In that scenario, they recommend “Main Street over Wall Street” for 2017, including small-capitalization stocks and commodities, real assets (including collectibles and real estate) over financial ones, and banks over capital markets. In particular, they suggest a shift from bond proxies, including utilities, telecoms, real estate investment trusts, and low-volatility stocks. These sectors, it should be noted, had tough times last week. Investors who have tilted strongly toward these investments, which have benefited from historically low interest rates, have been laughing all the way to the bank. In the future, they may be spooked by those creepy clowns, otherwise known as less-friendly central bankers. GLOBAL MARKETS WERE JOSTLED on Friday by another flash crash, this time in the British pound, which collapsed momentarily in early Asian trading, when liquidity is minimal. From $1.26, it plunged to $1.18 in a minutes, before recovering to $1.24, which still is a sharp decline in a single day. This probably says more about the state of the markets, which saw Treasury yields hit an air pocket on Oct. 15, 2014, and the Dow collapse by nearly 1,000 points on May 6, 2010. It also points to the limits of central banks’ power to keep markets in check. In that regard, China reported a sharp, $18.8 billion drop in its foreign-exchange reserves for September, bringing the third-quarter decline to $38.9 billion, much larger than the second quarter’s $7.4 billion. In terms simple enough for a presidential candidate to understand, Beijing has been selling foreign currencies to prop up the yuan, which bolsters its value; that’s the opposite of driving down the currency deliberately. The process also shrinks global liquidity. At the same time, the Fed seems on course to raise its federal-funds rate target in December, with the futures market putting a probability of 64.3% on that happening, according to Bloomberg. The September employment report, released on Friday, held few surprises, with a 156,000 rise in payrolls, insignificantly below forecasts of a 170,000 increase, leaving open the way for the much-anticipated hike. All of which suggests that major central banks around the globe are likely to become less generous. That’s scary for markets used to their largess. Post Comment Private Reply Ignore Thread |
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