Thursday, July 17, 2014

Jack Lew Slaps Down Janet Yellen

Neil Irwin at NYT sets the scene:
Eighteen years ago, when Alan Greenspan wanted to send a message that he worried the stock market was getting a little bubbly, he did it with a typically inscrutable phrasing buried in an otherwise unremarkable speech.

“How do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions,” Mr. Greenspan, the Federal Reserve chairman, mused in 1996, and the next morning the stock market sold off ferociously on the mere hint of his concern.

How things change.

Mr. Greenspan’s comments were vague and subject to varying interpretation, and even then they prompted hand-wringing over whether it made sense for the nation’s top economist to tell the financial markets that prices might have risen too high. Contrast Mr. Greenspan’s comments with those Tuesday and Wednesday from the woman who now holds that same job. Janet Yellen deployed the bully pulpit of the Federal Reserve chairmanship to send a message on market prices.

Ms. Yellen specifically called out the valuations of leveraged loans (which fund corporate buyouts) and high-yield “junk” bonds (which fund companies viewed as having risky finances) as potentially excessive. She acknowledged that prices for a wide range of assets, including stocks, bonds, and real estate, had risen, but argued that they “remain generally in line with historic norms.”

A written report accompanying Ms. Yellen’s testimony went further still, specifically pointing to “substantially stretched” valuations of social media and biotechnology stocks. An index of social media stock prices fell.

These events raise an interesting set of questions: Should government officials be speaking up when they think markets have gotten prices wrong? At what point does the Fed chair go from being the nation’s economist-in-chief to the market strategist-in-chief? And are Ms. Yellen’s views something that investors should be listening to?

At a conference in New York, the CNBC host Jim Cramer asked the Treasury secretary, Jack Lew, “Is it ever right for a federal official to comment on substantially stretched valuations of stocks?”

Mr. Lew said: “Jim, I think it is appropriate for us to comment on policies and trends. It is not appropriate for us to comment on individual market movements.”

Given the timing, and the way Mr. Cramer framed his question, it’s hard not to read that as a rebuke of the Fed’s approach to making its views on key asset prices known to the public.

For the record, Yellen may have a point, valuations of social media and biotechnology stocks may be “substantially stretched." But, as we know because of Austrian School Business Cycle Theory, the "stretched" status of the social media and biotechnology stock sectors is because of Fed money printing distorting money flows in favor of the capital goods sector, which includes the stock market.

If Yellen really wanted to halt the "stretched status," all she would have to do is stop the Fed from printing more money. That would end the problem real fast. But her identification of specific stock sectors is misdirection away from the Federal Reserve primary role in the current malinvestments. Further, lets say that Yellen's warning about the biotech and social media sectors is successful (unlikley) and causes investors to look elsewhere, it is those "elsewhere" investments that will experience the money flows of new Fed printing and the malinvestments will intensify in those sectors. The only way to stop the malinvestments is to stop the printing of money that is feeding the malinvestments.

Janet Yellen's warning is like that of an arsonist calling 911 after he starts a fire and while he is still pouring fuel on the fire. And Jack Lew, in calling out Yellen, misses the primary problem the way a blind man would miss at shooting fish in a barrel.


1 comment:

  1. But did she “stretch the truth” under oath in her Humphrey Hawkins testimony and is she guilty of breaching the “independence” of the Fed?

    “Many weeks we get together and confer about matters of mutual concern, but we are completely independent from the executive branch in the conduct of monetary policy.”

    This issue at hand is Yellen’s apparent frequent meetings with Treasury Secretary Jack Lew and the degree to which these meetings require accountability to the public, or at least Congress. This article is a must-read on this: The Fed In Danger

    It seems that Yellen and Lew meet weekly. What can they possibly be discussing? If they are discussing monetary policy in private, this is a significant breach of the Fed’s alleged independence. At the very least the nature of the meetings should be a matter of public record.

    Just what exactly are “matters of mutual concern?” Any matters of concern that concern the Fed and the Treasury are matters that should concern the public, for whom Yellen and Lew work.