By Michael O’Neill
“Ooh-ooh that smell, Can’t ya smell that smell, Ooh-ooh that smell, The smell of Fed-crap is around you.”
In 1977, Lynyrd Skynyrd sang about a drug and alcohol fueled car wreck. Today, that car-wreck is FOMC and other central bank guidance.
The Fed left US interest rates and monetary policy unchanged at its July 28 meeting, as expected. A contingent of analysts and traders hoped for a somewhat hawkish tilt, but they didn’t get it.
Instead, they got the usual drivel about assessing the appropriate monetary policy stance needed to achieve their objectives.
Essentially it is the June 16 statement, with one or two words changed. Yes, Mr Shakespeare, it really was “Much Ado About Nothing.”
FOMC statements have evolved into ambiguous, enigmatic epistles; all dressing, no salad.
However, the Fed’s mandate does not include providing clear, concise guidance. Far from it. Alan Greenspan, Fed chair from August 1987 until January 2006, turned Fed-speak into an art form when he told a Senate Committee in 1987,” I know you think you understand what you thought I said, but I’m not sure you realize that what you heard is not what I meant.”
Mr Greenspan set the benchmark for Fed communications, and a succession of Fed officials have embraced it with open arms.
The Federal Reserve mandate is to achieve maximum employment and price stability.
It sounds straightforward. It’s not.
The goals are hard to quantify, and that is deliberate.
It wasn’t always the case.
The Humphrey Hawkins Act of 1978 determined that full employment was 4.0% and set an inflation rate of 3.0% for price stability. (from San Francisco Fed)
They defined full employment as maximum sustainable employment, saying the two terms were interchangeable. That is certainly not the case today and hasn’t been since 2014.
Ben Bernanke was the Fed’s head-honcho from 2006-20014. When he left, the unemployment rate was 5.1, considered by many economists as full employment.
His successor, Janet Yellen, spent four years as “the Boss” and when her term ended in February 2018, the unemployment rate was 4.1%, o another “full employment” achievement.
In June, the unemployment rate was 5.9%, which suggests that maximum sustainable employment is closer to a reality than otherwise implied in the FOMC statement.
The other half of the Fed’s mandate is inflation. In his press conference, Mr Powell admitted inflation was running hotter than expected.
He said “inflation is running well above our 2% objective, and has been for a few months, and is expected to run certainly above our objective for a few months before we believe it’ll move back down toward our objective. The question of whether we’ve met that objective, formally, is really one for the committee to make.”
Hmm, if employment continues to rise and inflation remains above target, why is the Fed refusing to admit that US interest rates may have to rise.
A cynic would point to the $3.0 trillion budget deficit for 2021, estimated by the Congressional Budget Office. A quarter-point interest increase would cost taxpayers about $7.5 billion more, reducing the money available for President Biden’s pet projects.
Source: US debtclock.org.
Thank God you live in Canada, you say. Think again.
How did governments and central banks lose the plot?
Former President Donald Trump coined the term “fake news, and arguably, former Fed Chair Ben Bernanke invented “fake money” in response to the 2008 Financial crisis. It’s a neat trick.
In the guise of countering the risk of deflation, a central bank buys its government bonds, which isn’t a whole lot different from you taking money out of one pocket and putting it in another. The central bank buys the bonds on the secondary market, which drives bond yields down, theoretically lowers borrowing costs, increases spending, boosts economic growth, and raises inflation.
Source: Bank of Canada
The central bankers’ hearts were in the right place. The worlds financial markets needed liquidity, and interest rates were already at or near zero in many regions.
Politicians saw an opportunity akin to a Great White at a crowded public beach. The central bankers needed bonds, and the governments needed money. Government borrowing soared, and central bankers bought the debt. It became an addiction.
The central bankers cannot stop spending, and the central bankers do not know what will happen when they go into QE rehab.
Can ya smell that smell? It may may not just be “Fed crap,” but it is a warning that something is rotten global financial markets.