This week was extremely interesting in the sense that I feel that I had a brief glance at the Bernanke hand (in cards term). Let me try to explain.
It all started when Cramer almost collapsed in front of the camera saying that we have liquidity Armageddon. Then it was the Fed meeting and what we got was just usual “we are vigilant on inflation and bla-bla-bla“.
Weird. I thought that if even not-so-well informed Cramer knows that there is an Armageddon (shish, even I know that very well), than how come Bernanke is still playing his old inflation hand?
The answer came Thursday, when few more European hedge funds collapsed (nothing new with that) and European Bank opened unlimited discount window which was tapped for $200 bil in two days. Compare that with U.S. $70-80 bln injection after September 11, it’s almost triple that. Bernanke took a pause and injected “only” $30 bln, quite a lot, but nothing comparing to Europe.
What we got? Euro is dropping against the Dollar.
It all seems to me that Bernanke was playing the blinking game with the rest of the world. Whatever happens – he would not blink first. The world financial markets is the game of confidence, where everyone is bluffing, but the one who drops the cards first will lose. The money injection by European CB provides some liquidity for US as well, so why not make someone else do the job?
My conclusion is that Bernanke is not a political hack, who is getting his instructions from the White House to tune-up the economy before next elections. He is not a Wall Street slave as well, not a person who makes his financial decisions by looking at Dow Jones index.
He is a strict monetarist, whose target is the desired rate of the Treasury bonds of various maturity, which is strictly speaking the cost of money. He has some thought on where the 10-year Treasury bond yield must be and he will drain or inject until it settles in the desired range. Wall Street be damned. There is no Bernanke put
August 11, 2007 at 9:46 pm
You got it!
August 13, 2007 at 12:44 am
Easy money must surely be coming?
We will soon find out!
August 13, 2007 at 7:33 am
>>> Easy money must surely be coming?
Looks to me that Feds want to push 10-Y yields down to 4.5% at whatever cost. Any kind of “easy” money will push that rate up, not down, but at the same time the lack of easy money will destroy the economy pretty fast.
From what I see so far Bernanke is a very accurate player, he’s doing only that much as necessary, nothing more.
August 13, 2007 at 7:35 am
I’m in danger to lose my objectivity because I feel that I like Bernanke style and that may affect my future judgments when he miss-steps. Keep that in mind.
August 13, 2007 at 9:17 am
Isn’t “easy money” what caused this problem in the first place?
August 13, 2007 at 1:59 pm
The issue I see is that making credit available using overnight to 14-day lending is not going to fix the problem.
1. Short term lending will buy fund managers time to liquidate assets in order to redeme cash back to investors.
2. Not all investments are easy to liquidate. Trillions are tied up in real estate and other hard assets that take considerable periods to liquidate into cash. Some investments probably just worthless.
3. The Fed loans will have to be paid back very soon, with interest of course.
If investors are demanding to cash out of REITs, MBS, etc, the infusion of liquidity isn’t going prevent investors from losing confidence in the market, because these assets can’t really be liquidated. The short term loans only postpone the day of recking for invesments under water.
What its needed is a bailout where the assets are sold to the gov’t so that investors can cash out (ie S&L of the 1980’s)
I have no idea how long this will play out, but I think the volatility of the last few weeks is just the beginning of a much longer chain of events.
Prior to recent events, mortgages and business loans were coupled to the treasuries with a margin of perhaps a few 10 bps. Now we are seeing them becoming uncoupled as the yields on treasuries are falling while the yields for everything else is going up. If the Fed is to avoid further chaos they will most certainly need to do more than just increasing Fed short term liquidity. Even if the Fed was to drop the rates to 1% again, it probably would not prevent further decoupling of the bond markets. If the Fed did drop rates it might magnify the problems as investment dollars move to Asia or other markets. The action required is a bailout to stem investor losses, as long as investors continue to lose money, rates no non-gov’t bonds should continue to rise, until the fully reflect their real risk. This would likely trigger deflation. If investors grossly under estimate risk, there is a good chance they might grossly over estimate it too.
Thanks.
August 13, 2007 at 11:48 pm
Supposedly from a calm head point of view market excesses are now being unwound and the economy cooling.
From another point of view total panic is destroying any possibility the housing market can stabilise without first collapsing. Collapse is going to massively hurt us all.
At some point very soon it wll be seen that the economy has reached an almost critical mass into recession and then all manner of market support just has to be provided.
If CA is already in recession then surely we are only days away from moving from allowing lenders to fail to something more supportive.
August 14, 2007 at 7:25 am
The problem is that Bush administration made the government pretty poor. The treasury debt level is enormous.
The only thing Govt can do to bail out anyone is to issue more treasuries, which will damage the T-bond yield. But low yield on T-bonds is exactly the thing needed to support low mortgage rates, i.e. bail-out will not help.
Feds can lower rates, and probably they should. But we’ll pay for that by lower dollar.
My theory is that Feeds are waiting until our economy slowdown will damage big exporters, like China and petro-states. Then “fly to quality” may support the dollar even if Feds drop the rates.
It’s a blinking game.
August 14, 2007 at 11:38 am
theroxylandr wrote:
>”But low yield on T-bonds is exactly the thing needed to support low mortgage rates, i.e. bail-out will not help.”
Here is my thought on this. The rates between mortgages and business loans have decoupled from treasuries. I would speculate that this will continue, even if the rates of treasuries continue to fall. As I see it, investors now fear that the risks on non-gov’t bonds have soared, and will avoid them until confidence in them is restored. I can’t see this resolving until some guarentees are provided to investors and the only way I currently see this happening is with gov’t sponsored bailouts. I don’t believe low yields on Treasuries will make any difference. I am sure you’ve read numerous articles about the drastic over confidence in high risk investments. It would be natural for risk premiums to adjust to thier historic norms, but this time enormous amounts of capital has been invested in risky investments. The whole mess with packaging subprime with AAA loans and offering them as AAA rated creates reduces confidence in even the higher quality investments.
Lets suppose that Congress authorizes a bailout. Yes this would probably raise the yields on treasuries, but it would lower the spreads between gov’t and non-gov’t bonds. The effect on non-gov’t bonds would be a net reduction in yields. Higher treasury yields would also make them more attractive for overseas investors. Lower rates will likely cause the dollar to depreciate against foriegn currencies. The debt level compared to debt levels of more major industrial countries is either in line or below. Compare USG debt to Japan, Germany, France, Italy, Korea, etc. Am I missing somthing?
theroxylandr wrote:
>”My theory is that Feeds are waiting until our economy slowdown will damage big exporters, like China and petro-states. Then “fly to quality” may support the dollar even if Feds drop the rates.”
By then it would probably be too late. In order for that policy to work the US must endure a period of a recession. Rate cuts and other stimulus take about 9 months to affect the economy. Figure that it takes about 6 to 12 months for an recession to work its way overseas, and another 9 months before stimulus takes affect, we are talking of a recession of at least 2 years. Another issue to consider with a recession is the over extended consumer. An increase in unemployment would also increase the forclosure rate since, people have less savings to draw from to absorb a job loss or pay cut. In my opinion consumer debt load leaves them highly vulernable to even small decreases in income or temporary unemployment. If unemployment rises it would highly likely exacerbate credit confidence. The only way I see an out for now is a bailout, but I am open to alternatives ideas.
As always, thanks for the discussion.
August 14, 2007 at 11:45 pm
TechGuy, I see your point. I’m glad I’m not working at Fed or Treasuries, that would give me a brain damage 🙂
August 16, 2007 at 1:48 am
The fed can’t lower the rates now because the $ will be run over. So, they have to keep the rates where they are and will probably let Countrywide, Thornburg Mortgage and maybe a few banks fail.
My guess – we’ll be in recession by the end of the year, markets would have crashed by October (probably a global market meltdown) resulting in flight to quality and propping of US $ which will allow the Fed to cut the interest rates. In the meantime, the Fed will be pumping enough money in the system via open market operations to prop banks.
As far as the markets are concerned, we may see a short-term pop in the market where S&P goes up to 1450 only to experience sharp decline. If it goes up to 1450, be ready to shoot the bulls.
After the market went down today, there was a rumor that the Fed is planning to have an emergency meeting to cut interest rates. These rumors have been circulating in the market since last Thursday – it is possible that some bulls might be trying to spread it to lift the markets and get out of their positions at higher price.
Bill Poole of Dallas Fed came out 5 hours ago and squashed the rumor saying that he doesn’t see a need for the rate cut since the larger economy isn’t affected yet.
However, it is possible that Fed, in its infinitely small wisdom, may decide to cut rates. Even in such a case, the market may show a temporary pop – only to resume its decline. The reason is that the current turmoil is caused by credit crunch, i.e., unwillingness (NOT inability) of the lenders to fund risky propositions. That risk-aversion won’t go away that easily if the lenders feel that they will lose money by lending to CFC and TMA. So, the rate cuts won’t change a damn thing. On the contrary, it will make foreign lenders dump their mortgage security holdings (due to $ depreciation and fear of further value erosion) – and will increase long-end of the curve. In short, mortgage rates will go up even further, exacerbating the situation.
So, if you hear Chairman Bernanke warming his helicopters for the $ drop (google – Helicopter Ben), be sure that there will be many currency speculators ready with their bazookas to shoot those dollars – aka – a we’ll see a run on the dollar.
August 17, 2007 at 9:42 pm
[…] August 17, 2007 The Fed helping hand Posted by theroxylandr under Real Estate , Money , Economics I feel that I’ve got a little bit more clarity in my understanding of the Fed thinking. My previous post on the Fed policy is here. […]
December 18, 2007 at 12:01 pm
[…] Posted by theroxylandr under Economics, Finance, Money Back in August I wrote a post “Don’t play the blinking game with Bernanke“. I will not repeat its content once more, I will just add another […]
August 5, 2008 at 2:51 am
govna jedna