Sunday, March 24, 2019

STOCKMAN: Shut Down the FOMC!

Hey, Donald, You Just Buried MAGA!
By Donald Stockman

The Donald buried MAGA once and for all today. He did so by making the preposterous claim that the US economy would have grown at 4% if the Fed had not raised interest rates; and then added insult to injury by nominating a supply-side crackpot, Stephen Moore, to the Federal Reserve Board.

The fact is, free market capitalism is being asphyxiated by ultra-low interest rates and Keynesian monetary central planning at the Fed. These policies have turned Wall Street into a gambling casino, the C-suites of corporate America into financial engineering joints and have made the price-wage-cost structure of the US economy ever more uncompetitive in the world economy.

But by means of the patent nonsense he delivered on the Maria Bartiromo show this AM and the Moore nomination, the Donald essentially proposed to double-down on the central banking disease which is killing main street prosperity.
“Frankly if we didn’t have somebody that would raise interest rates and do quantitative tightening, we would have been at over 4% instead of a 3.1%........I mean they did $50 billion a month. I said, ‘What are we doing here,"
Well, Donald, here is the very reason why the main street economy was in the sick bay when you roused the left behind voters of Flyover America during the 2016 election.

To wit, for 127 straight months between April 2008 and November 2018 the knowit-alls at the Fed had their Big Fat Thumb on the money market rate (purple line), and kept it pinned drastically below the inflation rate (brown line). This did no good whatsoever for main street, but it meant endless free money for the carry trade gamblers on Wall Street.

In fact, never in recorded history had the price of overnight money (Federal funds) been kept negative in real terms (after inflation) for more than 10-years running. The Wall Street traders actually thought they had died and gone to heaven as they played leveraged speculation games in the financial sugar bowl depicted below day after day, year after year.

At length, fear was extinguished entirely from the casino; only greed and buy-the-dip algorithms were left. But this isn't just a sad story about how Keynesian central bankers destroyed honest price discovery on Wall Street and created unspeakable windfall gains for a tiny sliver of households with meaningful financial assets.

The roaring casino that was fueled in the economic gap between the brown line
(inflation) and the purple line (the nominal cost of repo and other carry
trade funding) also functioned as a giant economic magnet.

It fostered an irresistible temptation in the C-suites of corporate America to
borrow ultra-cheap funds from the debt underwriters and the large cap banks and
to then recycle such funds right back into Wall Street to fund stock buybacks, special dividends and M&A deals. That's because the casino was much quicker to reward "growth" deals, share count shrinkage and fattened dividends than long-term investments in productive plant, equipment, technology and intellectual property.

So what is actually depicted in the chart below is the proverbial devil's work shop of business finance. In the name of ritualistic Keynesian monetary ease, the Fed redirected corporate decision-makers from the business of growth and value creation to the pursuit of unproductive financial engineering and the extraction of financial rents from the balance sheets and cash flows of their own businesses.
Needless to say, if you want the money market to spend even more time submerged below the inflation rate per the graph below, you are simply courting further destructive speculation in the casino, and the strip-mining of even more cash from corporate balance sheets.

Moreover, who in their right mind can really believe that a money market rate just 25 basis points above inflation (2.4% vs. 2.15% inflation) will bring the US economy to a crashing halt?

For crying out loud, during the seven years over 1994-2000 the federal funds rate
averaged 4.80% compared to a core CPI (less food and energy) average of 2.55%.

That is, the real money market rate averaged 225 basis points--or 10X more---yet it did not bring down the economic house.

Likewise, with respect to the Donald's complaint about $50 billion per month of balance sheet shrinkage (QT), consider this: During the period between the year 2000 and the 2014 peak of the Fed's balance sheet eruption, it monetized $4 trillion of Treasury and GSE debt.

Needless to say, the entire $4 trillion was funded with fiat liabilities minted from the Fed's digital money machine---even as the bonds purchased from the Wall Street dealers had originally financed real goods and services such as aircraft carriers, housing and government salaries.

Once upon a time, therefore, even the semi-literate financially knew that massive
monetization was dangerous, unsustainable and actually tantamount to fraud.

That's why even the Keynesian money printers at the Fed insisted during their manic bursts of QE bond-buying that it was an extraordinary and exigent measure, and that its suddenly elephantine balance sheets (by historic standards as depicted below) would be shrunk back to normal as soon as financial stability returned.

Well, by the time that the Donald issued his first complaint about the Fed balance sheet shrinkage on December 18, the stock market was up by more than 300%, and even real GDP was nearly 20% larger than it had been on the eve of the financial crisis in Q4 2007.

We'd call that more than the "recovery" which the Fed heads led by Bernanke
had promised would open the way for normalization of policy.

How in the world, therefore, could the tiny little hook on the right hand margin of the chart below---which reflected the Fed's first year of tepid balance sheet shrinkage--have threatened to upset the applecart?

The Donald didn't explain, of course, he just insisted that it be stopped.

I hope the people over at the Fed will read today’s Wall Street Journal Editorial before they make yet another mistake. Also, don’t let the market become any more illiquid than it already is. Stop with the 50 B’s. Feel the market,don’t just go by meaningless numbers. Good luck!
7:13 AM - 18 Dec 2018
The fact is, QT was actually about the very opposite of "meaningless numbers". The Fed's bloated balance sheet, in fact, was the source of the "great, big, fat ugly bubble" that the Donald had harpooned during the campaign, but had now embraced lock, stock and barrel as his daily report card.

So declaring himself against even the modest QT program that was then on auto-pilot, the Donald made very clear that MAGA will never happen on his watch.

That's because reversing the insanity of QE has always been the sine qua non for reforming the Fed and thereby restoring the conditions for vibrant capita

Indeed, we have said from the very beginning that the only way to restore main street prosperity (MAGA) is to clean house at the Fed---and we don't mean just getting ride of nincompoops like Jay Powell, Charles Evans, Lael Brainard, Richard Clarida, John Williams, James Bullard and the rest.

Instead, we mean shutting down the FOMC, abandoning interest rate targeting and yield curve management, returning Wall Street to the discipline of two-way free markets and getting the Fed out of the fraudulent debt monetization business by drastically shrinking its hideously bloated balance sheet and then keeping it there permanently.

Needless to say, the chances of any of that happening on the Donald's watch are
somewhere between slim and none. Whether it was in response to the Donald's public pressure or their own groupthink, the Fed heads have now thrown in the towel too.

As the Northman Trader noted in its AM missive:
On January 4th Powell suddenly came out and signaled flexibility on the balance sheet. 
On February 4th Powell, Mnuchin and Trump had dinner. 
On March 20th Powell announces the end of QT for December with an
immediate reduction for this summer.  
The Fed gave Trump everything he wanted.

Still, we have to wonder how long before the Donald wakes up and notices the freight train of recession coming down the pike. Even before he got to talking monetary trash on Fox Business TV this AM, he was still boasting about the greatest economy ever.

But in this case you might have thought that his staff would have warned him about that ballyhooed 3.1% GDP growth.

Even as he was tweeting in the early AM, the Q4 numbers for the services economy were being revised sharply downward by the Commerce Department. Accordingly, JPMorgan has already revised its Q4 GDP estimate down from the reported 2.6% to just 1.8%----a change which will take the "3" out of the Q4 year/year number.

Still, tweeted the Donald:
6:52 AM - 22 Mar 2019
In fact, even before the number was revised away, it wasn't the best in 14 years of anything.

Here is the last 14 years of year/year real GDP readings by quarter. There have been 14 occasions when the number was higher than the 3.08% (heading toward 2.7% upon revision) which the Donald was boasting about this morning.

Needless to say, that takes the air out of the Donald's balloon---well, unless you think Q4/Q4 is something special compared to any other 4-quarter rate of change.

To be sure, we have said all along that the Donald is a raving ignoramus when its comes to economic and monetary matters.

But at least he has a partial excuse. Unlike the PhDs and bankers at the Fed, the man from Trump Tower at least has some reason to be confused about the scourge of "low interest".

That is, he became a self-proclaimed billionaire by riding the wave of debt financed asset inflation the Fed has been effectively fueling since 1971, and especially after the era of Bubble Finance began under Greenspan in October 1987.

To wit, since 1995, the price of New York City condos is up by 260% compared to just 67% for the CPI. And if you were the self-proclaimed King of Debt (or just another developer), the cost of real estate leverage would have plunged by nearly 70% over the same period, at least as measured by the yield on the benchmark 10-year UST (black line).

In other words, with standard leverage (80%) and sharply falling interest carry costs, you would have made 15X your money riding the condo price index in barely two decades; and you might well be a convicted "low interest man", too.

But no such excuse applies in the case of the Donald's new nominee to the Fed.

Stephen Moore is simply a GOP political hack who claims to be an economist.

Virtually everything in the excerpts reprinted below from a recent WSJ op ed that apparently caught the Donald's attention and got him the nomination is rank nonsense.

And that starts with the myth that the GDP boomed during the Reagan era. In fact, during the 26 years between 1954 and 1980 real GDP growth averaged 3.53% per year----and that was exactly the eight year average during Reagan's term in office (3.58%).

The ballyhooed boom of 1984 and 1985 was self-evidently the rebound from the deep recession of 1981-1982, not a permanently higher growth track.

In any event, this stuff is every bit as bad as the Keynesian pabulum that is standard fare in the Eccles Building:

...... the U.S. economy is positioned to grow at 3% to 4% over the next several years. The Tax Cuts and Jobs Act of 2017 and two full years of pro-business regulatory relief already ramped up growth to 3.1% over the past four reported quarters—the best performance since 2005.
The last major obstacle to staying on this path is the deflationary monetary policy of the Federal Reserve. The deflation began with quarter-point interestrate increases in September and December.
Markets reacted violently to the Fed’s inexplicable interest-rate increases, sending the price of commodities tumbling by 15%, including everything from oil, soybeans and orange juice to steel, lumber and copper. Stocks fell by the same amount in nominal terms, pushed down by deflation. The market turbulence wasn’t a reflection of weakness in the real economy. It was all the Fed’s doing. 
Skeptics in and out of the Fed still think sustained 3% to 4% growth is out of reach. Nonsense. The combination of stable prices and sharp tax cuts in the 1980s produced an average of 4% growth for seven years. 
The solution is obvious. The Fed should stabilize the value of the dollar by adopting the commodity-price rule used successfully by former Fed chief Paul Volcker. When commodity prices rose, Mr. Volcker saw inflation coming and increased interest rates. When commodities fell in price, he lowered rates.
The bolded underscored sentence is unadulterated baloney. Volcker did not follow anything that looked like Moore's imaginary "commodity rule".

In fact, during the crucial period when double digit inflation was crushed
between August 1979, when Volcker took over the Fed, and the summer of 1982, the Fed was not even pegging the Federal funds rate: Volcker was actually targeting M1 and starving the banking system of the reserve growth it needed to finance a continuation of double digit price gains.

Accordingly, the Federal funds (brown line) bopped and weaved like a drunken sailor during this period because it was a consequence of market supply and demand for bank reserves, not the price-setting action of the FOMC.

In any event, we leave it up to Tall Paul himself to debunk both the Fed's mindless pursuit of 2.00% inflation, and the specious reasoning of Stephen Moore that the Fed needs insure that government dictated interest rates remain below even the generously measured inflation rates currently being reported:
They made up the 2 percent number,” Volcker says, his voice rising in frustration. “One of the reasons I wrote this damn memoir is I get upset when I hear them fighting over whether 1.75 percent is enough inflation.” He argues there is no way to know with such precision what the inflation rate is, nor whether 2 percent is the right number that will keep the economy humming without overheating or crashing. To Volcker, central banking is an art, and it is dangerous to give the public a false perception that the Fed can fine tune so narrowly.
"The idea that the economy rests on whether the federal funds rate is 1.5 percent or 1.75 percent is just ridiculous,” he said.
Exactly so.

David Stockman was Director of the Office of Management and Budget under President Ronald Reagan. After leaving the White House, Stockman had a 20-year career on Wall Street.

The above originally appeared at David Stockman's Contra Corner.

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