Analysis and commentary on economic news, trends and issues, with an emphasis on Seattle and the Northwest.
June 20, 2013 at 10:25 AM
Taking away the punch bowl
The stock market isn’t happy with the prospect of the Federal Reserve backing off its stimulus of $85 billion a month in purchases of mortgage-backed securities. The hot money from the Fed, along with the rock-bottom borrowing rates for its member banks to get money for “trading,” has been one of the big drivers behind the market’s remarkable post-recession run. Bernanke apparently made things worse with a press conference aimed at transparency, as opposed to former Chairman Alan “Bubbles” Greenspan’s Yoda-like pronouncements.
Greenspan rarely followed the advice of his legendary predecessor William McChesney Martin, who ran the central bank from 1951 to 1970. Martin famously said it was the role of the Fed “to take away the punch bowl just as the party gets going,” Bernanke hinted that his Fed is going to do just that, albeit slowly. The markets are mindful of one Greenspan attempt in 1994, which shocked the system and led to widespread losses and slowing. The difference is that the ’94 move involved raising interest rates from a then record-low 3 percent to 6 percent. Bernanke has pledged that rates will remain at essentially zero until unemployment falls below 6.5 percent. But pulling back on the bond buying, and presumably shrinking the huge money supply, is enough to spook big investors. Or at least cause a period of rebalancing with plenty of instability.
But there’s a back story. The markets are also worried about China, where growth is slowing and the banks and shadow banking system are showing signs of serious trouble. China’s central bank is failing to infuse capital into the system and inter-bank funding is freezing up.
Beijing is waking up to the mischief that a heavily financialized system can bring, especially from shadow banking, and especially when combined with the huge debt state capitalism has taken on to keep the Chinese economy chugging. “The central bank appears to be determined to force banks and other financial institutions, such as funds, brokerages and asset managers, to de-leverage,” a trader at a major state-owned bank in Shanghai told Reuters. But can the government slap down the playerz without tanking the economy? The Naked Capitalism blog comments:
Now the notion that liquidity will be better soon may sound reassuring, but recall the progression of our financial crisis. It moved through four acute phases. First was August-September 2007, when the U.S. asset-backed commercial paper market froze over subprime worries. The next was November-December 2007. That, by the way, had a “seasonal” element not unlike the one mentioned in the Reuters story, in that liquidity normally is low at year end because a lot of investors try to close their books (at least as much as they can) as of mid-December. But things got sufficiently dire-looking that the Fed launched its first emergency lending facility, the TAF, in early December. The next was due to the Bear meltdown, March 2008, and the last was the big one, September 2008, in which the conservatorship of Fannie and Freddie were openers to the Lehman collapse and the panicked AIG salvage operation.
Given that accommodating central bank in economies with pretty good reporting was unable to forestall a meltdown, the Chinese central bank’s tough guy stance isn’t looking like the best reflex.
Back to America. The Fed is in a pickle because the recovery is so different from any since the end of World War II, especially the lost wealth among the middle class and persistent high joblessness. For millions, the Great Recession never ended. A new poll by Challenger, Gray & Christmas finds that 43 percent of companies that cut jobs during the recession “indicated that their companies will meet future demand with fewer employees, suggesting that their payrolls will never return to pre-recession peaks.” Combined with the weak level of business formation and growth, that’s bad news. So is the wider economy as strong as the central bankers think? We’ll find out. Meanwhile, watch China.
And Don’t Miss: The last mystery of the financial crisis — documents show how the ratings agencies helped trigger the meltdown | Rolling Stone
Today’s Econ Haiku:
Kick out the old guy
His value is in the past
It suits Men’s Wearhouse