Tuesday, January 17, 2017

Economic Theory Is Dead. New Normal Means No Recovery

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/bonds/economic-theory-is-dead-new-normal-means-no-recovery?post=108622&uid=4798

Economic theory is dead. It is like an emperor who has been stripped of his clothing. It is nothing of consequence in the New Normal. 

And that bodes ill for recovery. Before I get into John Mauldin's timely comments about this sorry state of affairs, we can look to see if monetary theory still applies.

John Maynard Keynes was right about monetary theory in his time. But that was then and this is now. Somebody needs to prove me wrong but I don't think they can until the powers that be change the rules.

Here is what Keynes said, paraphrased:

When interest rates are low, the opportunity cost of holding money is low, and the expectation is that rates will rise, decreasing the price of bonds. So people hold larger money balances when rates are low. Overall, then, money demand and interest rates are inversely related. [Emphasis mine]
Well, it ain't happening that way folks. Bonds are being hoarded even when interest rates are negative, in Europe. And US bonds are being hoarded. Interest rates are low, and real rates are likely negative, and Keynes rule does not work now. The rules have changed, and unless they are changed back, money demand and interest rates are no longer inversely related.  

 The New Normal has forced the rules to be changed. What is the New Normal? The New Normal at Google Search is defined this way:

 A previously unfamiliar or atypical situation that has become standard, usual, or expected.
Why are economists, and investors who listen to them, expecting interest rates to rise? Because they live in that parallel universe of old. That rule does not apply here and now. They are fossils, dinosaurs, and they are wasting everybody's time.

Interest rates and money demand are not inversely related when bonds are being hoarded for collateral. Keynes didn’t have that issue, apparently.

But Keynes got one thing right. Applying it to the New Normal is chilling. It is positively chilling. Keynes said rates rise during expansions. But since they are not rising, we can be assured that we will never have an expansion! Never, never, never, never.

I really wish somebody could prove me wrong, but talk is cheap. The talk of rising rates is endless, blah blah, blah blah blah. Show me. I am not from Missouri, but show me anyway!

So, continuing on with the article above, citing Keynes, there are some good points made:

1. If inflation erodes the purchasing power of the unit of account, economic agents will want to hold higher nominal balances to compensate, to keep their real money balances constant.
That may be true. Certainly, those hollering for NIRP don't think it is true. But if it is true, the New Normal has a big problem.

2.  When interest is high, more people want to supply money to the system because seigniorage is higher. So more people want to form banks or find other ways of issuing money, extant bankers want to issue more money (notes and/or deposits), and so forth.
We know this is true. When is the last time anybody saw new banks? It is hard to expand the money supply if there isn't much competition and aren't many new banks created. The New Normal has seen to that.

John Mauldin made a statement that everyone should take notice of. Central bankers are not alarmed, but they should be. Banks have been booted off American soil before, and they can be again. They can't be too complacent. Mauldin said this in a wonderful article:

Because the Fed is banker-driven, it thinks cost of capital is everything and therefore that a lower interest rate will stimulate activity. They’re right up to a point, but that relationship is not linear. It flattens out as you get closer to zero.
Yellen is aware of this. Her point with Footnote 8 was that interest rates aren’t always an effective stimulant. But also, she isn’t the only vote. She has to convince the other governors and regional Fed bank presidents, and they are all influenced to varying degrees by the banking industry, which loves lower rates.
Come to think of it, this might also explain Footnote 8. Negative rates are death to commercial banks. A -9% NIRP would kill many banks. So maybe that footnote was a warning, the Yellen equivalent of a brushback pitch to overly eager bankers. “Look what can happen if we don’t do it my way.”
I truly don’t think Yellen will take us down to -9% or anywhere close to it. I do think she is mentally prepared to go below zero if she sees no better alternatives according to her personal economic religious beliefs. I also feel very confident that she and her colleagues won’t take rates much higher from here. I think we will see 0% again (and below) before we see +2%.
Look, sooner or later a recession is coming. This recovery, feeble as it has been, is already long in the tooth. I think there is the real possibility we will enter at least a mild recession no later than the end of 2017, brought about by a crisis and recession in Europe. Those of us in the US really should pay close attention to what is going on at the polls in Europe just as we pay attention to the polls in Florida. How will the Fed respond when that recession hits?
The Fed is making those plans right now. If you think 2008–2009 was a wild ride, I suggest you fasten your seatbelt and prepare to take an airbag in the face. The next ride will be even wilder.
Now, it is true that the central bankers think that by keeping yields for bonds low, by setting the table for massive demand and hoarding, and by goosing the stock market, that they can stop the business cycle in its tracks. But if they can't, and Mauldin is right about the need to fasten a seatbelt, then low rates give no comfort in downturn, no margin of comfort at all.

Mauldin also blasts Stanley Fischer, Vice Chairman of the Fed in the same article:

Let’s read that sentence again: “… the idea is, the lower the interest rate the better it is for investors.” They are sacrificing mom-and-pop middle America, the hard workers who have played by the rules and retired and saved and now want to live out their lives enjoying their grand-kids and a little well-deserved relaxation, and they find they can’t do that because the Federal Reserve thinks that protecting Wall Street and wealthy investors and bankers is more important.
The true is, it is likely that Fischer and the Fed are simply satisfied with themselves. As I have said before, they are just happy the big banks are still around and the counterparties are buying bonds. That is all they care about.

But it would seem necessary for insurance companies and pension funds to invest in way more risky investments, which they are constrained not to do, to keep from raising insurance rates and pension contributions to absurd levels.

And what happens if insurance companies get the green light to invest in risky instruments? What kind of insurance is that? Is it like a rock? No, it is jellyfish insurance. Nobody will want it. Or maybe the insurance companies will keep it a secret. 

The theater of the absurd is what the Fed policy is. Fischer is trading sanity for insanity. But we know structured finance and bond hoarding is here to stay until something bad happens. Maybe nothing will happen. If anything, more and more need for collateral, as risk increases, will just drive bond yields down further.

And thus the New Normal will remain true for no telling how many light years, indicating that money demand and interest rates are no longer inversely related. I leave it to the economists to create the appropriate New Normal Equation.

The New Normal is fueled, as I recall Mohamed El-Erian saying someplace, by "ill understood financial innovations". That is an understatement of a disturbing reality, if there ever was one.

Friday, January 13, 2017

Pros and Cons of Attacking the Federal Reserve Bank

This article was first published by me on Talkmarkets http://www.talkmarkets.com/content/economics--politics-education/pros-and-cons-of-attacking-the-federal-reserve-bank?post=107786&uid=4798

It would seem that the attacks on the Fed are increasing. Most people have lots of reasons, legitimate reasons, for attacking the Fed. Now, a presidential candidate, Donald Trump, has chimed in with his improper attacks on the Fed.

Trump is partly right, as most people who are all things to all people appear to be right. But his attacks require multiple universes. We, unfortunately, live in only one universe, and are relegated to the earth, home of Hotel Structured Finance, where we have all checked in.

But more about all that in the cons.  Here are the pros first.

So, what are the pros of attacking the Fed? Well, I have attacked the Fed on five issues:

First is the issue of mispricing risk. I think it is proven that the Fed mispriced risk in the housing bubble and in other markets as well, causing banks and other financial institutions to buy unsafe bonds that were less than sound, putting the economy in jeopardy.

Second is the issue of taking down the economy in the Great Recession. I believe that the Fed took down the economy to slow wage growth and get houses back for the uber rich. The Fed would say it was just all to protect the banks. Maybe that is why so many people hate banks.

So, the housing crash was bad, but the resulting tightening of credit, mark to market, etc, made things much worse for main street. The Fed made things so bad that companies could not borrow, sending many workers to a life of misery, unemployment and even death, with most of the unemployed having little opportunity to rebound for years.

Third is the issue of creating fairness in society. I have advocated helicopter money, because all other stimulus from the Fed goes to making an even greater financial divide than has existed in this nation for decades. Helicopter money done correctly, would give us some inflation, but controlled in a way that would cause everyone to benefit.

As it is now, even the local 1 percent people are being left behind compared to the national 1 percent. In certain states, 1 percenters make millions. In other state their incomes are relatively paltry. There is not only a financial divide in America, but also a geographical/financial divide.  Helicopter money would be dispersed equally among all Americans. It would likely benefit geographical areas that are falling behind too.

Fourth is the issue of the Fed creating structured finance in the first place. Derivatives, tools of the false economy, are simply crushing main street, or at least enough of mainstreet that the Fed cannot raise rates quickly, to control a boom. No, now the Fed simply cannot allow a boom. The collateral of bonds cannot spike in yield, or counterparty destruction could undermine big finance altogether.

While most people do not understand that much about derivatives, or the new clearinghouses that increase demand for bonds as collateral in derivatives, they know that something is different this time. This is not like America of the past. As in the words of the song, we just don't have a peaceful, easy feeling about our financial system.

Fifth is the issue of the havoc the Fed is exacting on savers, pension plans, insurance companies and all those who rely on a reasonable return to survive. The damage is great, and getting more pronounced. This is an attack on main street for sure, even if that is not the intent.

I think it is a legitimate criticism of the Fed to discuss those issues. This is true in the light of an article on CNBC based on Boston Fed President Eric Rosengren's comments. Rosengren has said that the Fed should start raising rates, because if it doesn't people will simply make too much money. While he didn't say exactly that, clearly he believes that the labor market will tighten, and the recovery will stagnate? Say what? 

The liquidation of wages contributed massively to the stagnation of the recovery after 2008. It appears that Rosengren, focusing on the unemployment rate, is only interested in the continued recovery of the 1 percent, or maybe a small percentage of the 1 percent. The Fed finds itself in a sweet spot, it thinks, but main street is restless, seeking off the wall candidates for office. You can be an unstable soul, and if you run against the Fed, you will get a lot of votes even if you behave in an abusive and belligerent manner.

Perhaps the Fed should take note and at least watch what it says. It sounds really bad to seek the increase in interest rates only because everyone is working and prospering! We know, of course, that it is partly about wages and partly that the boom cannot be permitted. That new reality goes against the grain of most voters.

So, now we can look at the cons regarding Fed attacks:

This effort to attack the Fed is not as simple as it looks. Attacking is a whole lot easier than fixing. Scott Sumner summed it up best when he said this about Donald Trump:

So what are Trump’s views?  Very simple.  For elderly savers, Trump favors higher interest rates.  For big developers, he favors low rates.  For consumers, he wants a strong dollar.  For exporters, he wants a weaker dollar.  Each group will get what they want, but not all in the same universe. You see, Trump’s monetary views are best described as a wave function, which will collapse to a single outcome on January 20th. Trump is the first post-modern candidate, the first to understand that truth is what the voters let you get always with, and that the multiverse offers the possibility of achieving seemingly irreconcilable aims.
For Sumner, Trump wants multiple universes, or multiple realities existing at the same time. It just isn't possible to please everyone at the same time.

So, while Rosengren hints at the unpopular act of tamping down wages, there are good arguments for raising interest rates that have nothing to do with wage destruction in a tight labor market situation.

One such reason is that banks could make more money if interest rates go up a bit. Jamie Dimon says that would be the case. That means they may be willing to lend to people who need housing and have less than perfect credit or make it easier for those that do have decent credit.

I am not talking about banks extending exotic, massively risky, loans that result in not paying your mortgage, like pay option arms and the like. And, we know interest rates cannot spike too high, in this age of derivatives. But small increases could motivate banks to offer reasonable loans to a greater portion of society.

Another con of attacking the Fed is that the need to raise interest rates will help escape the ZIRP and NIRP. NIRP has not hit home, at least in nominal interest rates in the USA, but low and negative rates make it dangerous to enter into another recession. If that were to happen, rates would go deeply negative. Hats off to the Fed, at least so far being unlike other central banks, for at least trying to get rates up so the cushion against negative will be in place.

And finally, a con of attacking the Fed is that it just isn't free to do much anymore. As the song says, the Fed has checked in, along with all of us, and can never leave. It isn't Hotel California. It is more like Hotel Structured Finance. If anyone saw the movie Independence Day, with Will Smith, you can be sure that Hotel Structured Finance floats in the sky, taking up all of the horizon. It is ship run by aliens, the globalists, but the rates are low and you have a lot of choices as to rooms. Don't plan on leaving, though.

So, here is what constrains the Fed, and all of us, from the booming times we so want to have return to our nation:

Structured finance products are usually include derivatives and securitized and collateralized debt instruments like syndicated loans, collateralized mortgage obligation mortgage obligations, collaterized bond obligations (CBOs), collaterized debt obligations (CDOs), credit default swaps (CDSs) and hybrid securities.

Structured finance helps larger businesses get large capital injections, while loans to main street businesses are hard to come by. So, we will see going forward if criticism of the Fed can bring any prosperity. At least people need to get it right. Donald Trump doesn't quite get it, thinking incorrectly that bond yields on the long end are controlled by the Fed rather than by supply and demand. That is a grave error on his part.

Just don't bet the farm that Happy Days Are Here Again.  After all the 1929 song was written by a Yellen. His name was Jack Yellen. I am just kidding about any connection with Janet Yellen, but perhaps she will sing it one day for us, even if happy days aren't quite attainable for many on main street.

Thursday, January 12, 2017

Anti-Zionism Is Deliberately conflated with Anti-Semitism to Suppress Legitimate Criticisms of Israeli Policies

Thank you Avi Shlaim, professor at Oxford University, for telling the truth about opposing Israel versus antiSemitism:

What is striking, however, about contemporary Britain is the use of anti-Semitism as a political tool to silence legitimate criticism of the policies and practices of the Israeli government and the collusion of members of the political establishment in this process...

An anti-Zionist, on the other hand, is someone who opposes Israel as an exclusively Jewish state or challenges the Zionist colonial project on the West Bank.Israeli propagandists deliberately, yes deliberately, conflate anti-Zionism with anti-Semitism in order to discredit, bully, and muzzle critics of Israel; in order to suppress free speech; and in order to divert attention from the real issues: Israeli colonialism, Israel's apartheid, its systematic violation of the human rights of Palestinians, and its denial of their right to independence and statehood. The propagandists persistently present an anti-racist movement (anti-Zionism) as a racist one (anti-Semitism).

The world must understand Mr Shlaim's message because he is telling the truth. Are there white supremacists who cloud the issue as well? Of course. But it is in the Zionists' best interest to muddle the truth, and it is an injustice against Jewish people everywhere, who often take the brunt of criticism for policies in Israel that they have no control over.

Please understand, Zionism is not, was not, nor will ever be, Judaism. Both True Torah Jews and New Covenant Christians believe that Zionism is not the real Zion.

Sunday, January 8, 2017

Jamie Dimon Is Janet Yellen, Proving Will Rogers Right

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/us-markets/jamie-dimon-is-janet-yellen-proving-will-rogers-right?post=106802&uid=4798

Jamie Dimon wants it all. Before I quote him and try to read between the lines, people should realize that Dimon wants higher interest rates to benefit JP Morgan, but not too high. Rising rates help real estate lending.

He doesn't want the shock of quickly rising rates so he knows lower rates help his counterparties. But I believe he thinks that the counterparties to his bank could supply more bonds if necessary as collateral in JP Morgan's big derivatives holdings if rates rise a bit, slowly over time. He doesn't want them to have to supply extra collateral all at once. Lehman, after all, went bust. It was a major counterparty to JP Morgan and significantly weakened the bank, whether Dimon would admit it or not.

Jamie Dimon's statements seem confusing. He wants to have his cake and eat it too. He wants larger spreads on loans, which is only possible if rates go up, but he has made confusing statements proving Will Rogers right in his assessment of bankers. In the Great Depression, Rogers uttered these famous quotes showing bankers are a bit confused, wanting low rates and high rates concurrently:

"Bankers are likeable rascals. Now that we are all wise to 'em, it's been shown that they don't know any more about finances than the rest of us know about our businesses, which has proved to be nothing." DT #1924, Oct. 4, 1932

"The whole financial structure of Wall Street seems to have fallen on the mere fact that the Federal Reserve Bank raised the amount of interest from 5 to 6 per cent. Any business that can't survive a 1 per cent raise must be skating on mighty thin ice... But let Wall Street have a nightmare and the whole country has to help get them back in bed again." DT #950, Aug. 12, 1929

Of course, now, it is worse than in the Great Depression. We cannot tolerate a quarter of a percent rise in rates! But why is it worse? And can we find any wisdom coming out of the mouth of Jamie Dimon?

This image, which was originally posted to Flickr.com, was uploaded to Commons by Dudek1337

Here is what Dimon has said in his letter to shareholders in 2015:

I am a little more concerned about the opposite: seeing interest rates rise faster than people expect. We hope rates will rise for a good reason; i.e., strong growth in the United States. Deflationary forces are receding – the deflationary effects of a stronger U.S. dollar plus low commodity and oil prices will disappear. Wages appear to be going up, and China seems to be stabilizing. Finally, on a technical basis, the largest buyers of U.S. Treasuries since the Great Recession have been the U.S. Federal Reserve, countries adding to their foreign exchange reserve (such as China) and U.S. commercial banks (in order to meet liquidity requirements). These three buyers of U.S. Treasuries will not be there in the future. If we ever get a little more consumer and business confidence, that would increase the demand for credit, as well as reduce the incentive and desire of certain investors to buy U.S. Treasuries because Treasuries are the “safe haven.” If this scenario were to happen with interest rates on 10-year Treasuries on the rise, the result is unlikely to be as smooth as we all might hope for. [Emphasis mine]
How confusing can you get? He hopes rates will rise. But then he says if the real economy does recover, and fewer treasuries are to be bought, then the result will not be smooth sailing! Will Rogers was right! Bankers don't know their business, meaning there is no certainty in their business. It is difficult for Dimon to have his cake and eat it too.

But risk has mostly been transferred to counterparties and to clearinghouses through Greenpan's structured finance.  Dimon could be getting giddy with how safe it is for him. Let the counterparties fail, he can handle it. They put up more bonds or too bad for them!

His counterparties will surely thrash around if 10 year yields explode. Dimon knows this. That is, of course, why I think the Fed knows 10 year yields can't be permitted to explode. And the economy can't be permitted to recover properly. And Dimon's dream for bigger spreads in his lending to main street is just that, a dream, with a little improvement on the edges, but not the profits he longs for from the housing bubble past.

Counterparties are even more weakened than commercial banks were in the Great Depression, and proof of that is the inability to raise rates .25 percent without Wall Street having a nightmare.

Dimon mentions in his letter to shareholders that asset values cannot be permitted to plunge. That decline would severely hurt banks, and rising asset values, like oil and easy money housing, are difficult to control. If they cannot be controlled, oil acts as a tax potentially leading to recession, and housing becomes the depository of too much equity, too much cash, meaning when it is liquidated by the Fed, it creates a credit crisis and declining GDP.

So, Dimon is a bit between a rock and a hard place, wanting to avoid asset decline without overheating an economy that cannot be allowed to recover. Wow, he is starting to sound like Janet Yellen. Jamie Dimon is Janet Yellen. Who could have believed it?

It seems to me that real helicopter money would be easier to control than easy money mortgages if we are to believe Eric Lonergan. And it is a more equitable distribution of Fed base money. Why can't we go that direction?

Thursday, January 5, 2017

US Treasury Bond Tantrum Boys Are Out in Full Force

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/us-markets/us-treasury-bond-tantrum-boys-are-out-in-full-force?post=106098&uid=4798

After Larry Summers and Jamie Dimon stated that there is a shortage of long bonds (for use as collateral in derivatives and other markets), hedge fund managers and finance writers say you have to get rid of your bonds. The tantrum boys are back in force. The list includes the ever present king of tantrums, Alan Greenspan, as well as Paul Singer, Jonathan Garber from Business Insider, and a few others.

Many of the bond tantrum boys, (BTB's), know not enough bonds are being generated, as there is not enough deficit spending being added, causing yields to decline over the past 30 years. You don't need to see the 10 year bond chart again. You know what it looks like. Clearly the BTB's want to buy treasury bonds, UST's, at the most favorable price, meaning when yields have spiked. This is why tantrumming has been so popular since 2013.

While it is possible that slowing GDP is a way to get more bonds into circulation, surely that would be a very desperate way to produce the bonds. After all, the Fed is torn, give more IOR by raising rates, or get the counterparties their bonds by keeping rates, and hence, the economy, slow. The Fed is decidedly leaning toward neo-Fisherism, so you would think a slowing economy and low rates would be destructive to the plans of the Fed. You would think. But I digress. 

So, you wonder why Greenspan does it. Like the song says, nobody does it better. He, after all, created the atmosphere of structured finance for bond hoarding. Maybe it is his conscience. Or, if he doesn't have one, maybe he has investors willing to pay for tantrum behavior. There could be a third, more benign reason for why he wants to tantrum, but I certainly don't know what it is. Perhaps he would share his reasons someday.

So, let's look at 3 of the BTB's, Greenspan, Garber and Singer, and their recent fear tactics:

1. Greenspan on Yields, Slow Growth, and Hyperinflation

From the article:
One could say that Greenspan's efforts to undermine that bond collateral by seeking higher yields is a conundrum in itself. It seems out of character for one so concerned about bank risk. Why would he want to destroy the collateral for the derivatives market he fostered? It makes no sense that he would want to saddle the big banks with even more risk and threat of margin calls...

...Does Alan Greenspan have no faith in the system he created? Is he getting nervous? Yes, he says he is. If he is opposed the very system he created, you wonder why he created it in the first place!
2.  Here's Why Bond Yields Could Go Even Higher From Here

Jonathan Garber, Markets editor for Business Insider say foreign buyers have left the UST market. He says also there will be a glut of corporate bonds hitting in September. I suppose if you are a day trader this could be helpful info, but it is still tantrumming to me, in my opinion.

Then Garber makes this astonishing announcement, showing that the long bond would likely go up in yield by less than the Fed Funds increase:
While the team says a September hike is unlikely, it believes such an event would cause the front end of the curve to rally another 15 to 20 basis points with the long end "rising by a similar amount to be less than or equal to the front-end sell-off."
Wow, that is reassuring to the tantrum followers, not! And on top of that, Garber says in an article published on September 9th, that UST's were getting crushed. That lasted a day.

By World Economic Forum - Flickr: The Global Financial Context: Paul Singer, CC BY-SA 2.0, https://commons.wikimedia.org/w/index.php?curid=24113654

 3.  Billionaire Paul Singer Warns of the Biggest Bubble in the World.

Paul Singer has warbled with the other BTB's that we are in the biggest bubble in the world, the bond bubble. I am not sure he is the guy to trust on this as he is a counterparty to banks, being a hedge fund manager. He is likely hoarding bonds like other counterparties do. That is what they do. Paul warbled this:

I think owning medium to long-term G-7 fixed income is a really bad idea. By removing these things that are bad ideas, that’s a helpful think. Sell your 30-year bonds.
Valuewalk had a fascinating article regarding Singer. Singer does not like the system, or maybe it should be said that he fears the implosion of a system that seems to be working for him, or maybe it is a combination of both, along with a need to tantrum:

Singer starts by noting that uncleared derivatives “effectively represent borrowing and lending with much lower margin requirements than those applied to the underlying assets, thereby allowing players to hold much bigger positions (and risks) in financial assets than was ever permitted in the past.” The margin benefits that uncleared derivatives receive relative to cleared derivatives appears to be a recent focus of the FDIC and Fed, who are both addressing the national security issue, but the nature of the risk is in part based on uncertainty. “Since the real exposures of derivatives are largely obscure (if not opaque), the real levels of leverage and risk  outstanding in the world are not discernible under current regulations and accounting standards.”
That article was published in 2015, but surely, he would welcome collateral being used in the clearing houses. After all, he worries about uncleared derivatives. One would think he would be hoarding bonds to play in the cleared derivatives markets, established mainly by clearinghouses that monitor collateral fairness. 

It doesn't add up that Singer thinks bonds are overpriced, with yields too low, unless he wants more of them at a bargain. That appears to be tantrumming. Any other explanation is not apparent to me based on his desire to see more derivatives trading backed by collateral!

So, there are more BTB's, mostly from hedge funds. Watch for them in the news. When you see them come out with more articles and warnings, know that the process at work is just Wall Street trying to gain an advantage in a bond starved world. It is the bond world's version of pump and dump, made famous to the average investor by Jim Cramer. It is more like dump now and dump later, but you get the idea.

I hope everyone would take the time to read this amazing article from John Mauldin, entitled Monetary Mountain Madness. 



Monday, December 26, 2016

Keeping Interest Rates Low Is a Function of Demand, Not of Politics

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/bonds/keeping-interest-rates-low-is-a-function-of-demand-not-of-politics?post=105956&uid=4798

Donald Trump, who recently spoke about the false economy as if he understood the economy, obviously does not have a clear idea about how that false economy actually works. He tipped his hand when he said that the Fed is deliberately keeping interest rates low until after the Obama presidency. That is an ignorant statement, if we understand what long bonds are used for.

While the Fed certainly created an atmosphere in which interest rates can remain low, it does not keep long rates low. Demand for bonds with limited supply keeps rates low. Trump has spoken of fiscal deficit spending as a means to increase the amount of bonds, but that would not radically raise rates, as the demand is so large for the bonds that it may not matter.

And US citizens don't get much benefit from deficit spending, but Wall Street would.

The conundrum is simply that long bond yields do not respond to raising short term interest rates. The Fed raises short term interest rates in order to control monetary policy.

Alan Greenspan said in 2014:

We wanted to control the federal funds rate, but ran into trouble because long-term rates did not, as they always had previously, respond to the rise in short-term rates.
The conundrum, of course, is not really a conundrum but before I get into that, it is clear that Janet Yellen and Ben Bernanke previously, inherited the conundrum. I have made the argument in previous articles that the conundrum is caused by the hoarding of treasury and corporate bonds, which is caused by:

1. the advent of structured finance, guided by Alan Greenspan, and made famous by Salomon Brothers.
2. the failure of asset backed bonds in the Great recession.
3. the need for more bond collateral in clearing houses governing massive derivatives trades.

So, then, plain supply and demand drives the long UST market. Lack of trust in asset based bonds gives rise to the new gold, the non asset based UST, which has never seen default. Demand for something that appears as sure as anything on earth, even more sure than the price of gold, is the collateral of choice in the structured finance markets.

Is this a good thing? Well, so far for many on main street it has been dreadful. Donald Trump is trying to play into this pulse of despair by his explanations of the low bond yields, but in this most recent attempt, fails miserably. Massive demand for the long bond is here to stay. Would it be good if bonds were not used as collateral? I think so.

But no president could make that happen by himself. Probably the disruption to the financial system would be massive at first. Fractional reserve banking would possibly have to come to an end, which would tighten the money supply and cause a Great Depression.

The only way to avoid that sort of chaos, in the move to keep bonds from use as collateral, would be to immediately substitute other, trusted collateral, in an orderly fashion.

The Fed is not involved in politics, says Minneapolis Fed president Neel Kashkari, in response to Trump's accusations. Clearly that is true, but the economic decisions made in this atmosphere of the new normal do carry political ramifications.

And Donald Trump understands this, sort of. But, he doesn't understand the need for long bonds.

The conundrum, of course, is not really a conundrum. Bond hoarding is something Alan Greenspan understood perfectly well. Very few people understood what was going on in 2005 when Greenspan invented the term, conundrum. But more people now understand that bonds are money, and you can serve them up as collateral while receiving yield on them.

Proof that the Fed does not keep bond yields down in a manipulative fashion is the affect ending QE had. Clearly, everyone thought rates would go up. The Fed set the table for rates to go up, letting bonds reflect market forces, not demand from Fed purchases. But of course, it was clear they did not go up. The demand for the bonds was simply too great even without Fed purchases.

One would think presidential candidates would, or their advisors would, know this simple lesson. But apparently it is not getting through. It is a message, this hoarding and demand for bonds, that is still not getting through to many people at all. 

Wednesday, December 21, 2016

Donald Trump on the False Economy. R-Star Estimates Bleak

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/bonds/the-false-economy-r-star-estimates-bleak?post=105561&uid=4798

When the Fed speaks, it is like that insurance company telling you that your car will not be replaced if totaled in the fine print. The fine print reads, blah blah blah blah blah blah blah. Well, the Fed, the BOJ and central banks everywhere are getting us to ignore the fine print, expecting us to really believe they will fix things. Unless radical solutions are found, they won't fix things.

Donald Trump, who is not my favorite politician (come to think of it, I don't have any favorite politicians anymore), has kindled a potentially useful discussion that could one day be helpful to the real economy. The odds are that it probably won't be helpful, so I am not trying to get anyone's hopes up. As I show later R* (R-Star) predictions are very bleak.

But more people need to understand the argument for getting money from the financial economy into the real economy, and more people need to demand something be done. I will tell you upfront that if Harvard professor Jeremy Stein can't solve the problem of building up the real economy through changes to the financial economy, I am not sure who could.

Trump is correct that the economy is a false economy, in that it is powerful within the financial system but not so potent on MainStreet, and that interest rates must rise. However, he is short on details about how to make that happen. And it is unlikely that any president could establish a fix for our massive decline in bond yields, as the chart below shows, that reflects their massive demand as collateral. This demand drives yields down, and it doesn't look like that will change.

Hillary Clinton toes the traditional line saying that presidents or presidential candidates speaking out about Fed policy move markets. Well, it didn't happen. The 10 year UST is yielding under 1.60 after Trump's comments.

The discussion about the Fed policy is significant if only to illustrate that raising rates at the low end has had little effect on the long bond due to Greenspan's "conundrum" which he knows is really not a conundrum. It is expected behavior for the 10 year bond, due to the structured finance bond hoarding that Alan Greenspan himself help put in place to push risk off banks and onto counterparties.

It would not hurt if American citizens were all familiar with the conundrum, which is that raising rates on the low end does nothing to push rates up on the long end. It would be good for citizens to be familiar with the Fed's limited ability to raise interest rates in the face of a massive derivatives market that has pushed demand for the long bond way, way up and yields way, way down.

It would be good for the masses of American citizens to know that the Fed cannot allow a booming economy because it cannot raise rates like it could before the derivatives markets took the world over. There is a solution given as you read on. But it would require a change of rules that is unlikely to occur.

Don't get me wrong, I wish that the Donald could fix this problem. But in order for it to be fixed, at least two things would have to happen.

1. Treasury bonds would have to be banned from the derivatives markets for use as collateral. That would require moving heaven and earth in the financial world. Without suitable substitutes, it would be almost impossible to replace treasuries with other financial assets.

2. Asset based securities and corporate bonds would have to replace those treasury bonds. Asset based securities, privately originated, like MBSes, are more risky than treasury bonds, which are gold to the derivatives markets.

It could be necessary to use more commodities, like gold and copper, as collateral, but their price fluctuates even more than treasury bonds. They would cost more to use, and corporate bonds as well. Haircuts to the value of that collateral would prove to be very expensive and could drive derivatives trading into the shadows and away from the clearing houses. That didn't work so well leading up to the Great Recession.

An article discussing the natural rate, R*, and that it is predicted to decline to 1 percent in the next 10 years.That prediction does not bode well for the real economy. Michael Ashton on Talkmarkets has pointed out that John Williams of the SF Fed has stated that a savings glut has caused the slow down in economic activity.

Well, the savings glut, as Ashton has pointed out, was caused by the Fed flooding the bank with excess reserves that just sit there. 2.4 trillion dollars of reserves or so, are just sitting collecting interest for the banks.

This Fed president blaming a glut of savings for the slow economy is like those who blame guns when people misuse them. It is simply a warped view of things and defers the real blame off of where it belongs.

To reformulate the saying, "guns don't kill people, people do", we could say:

A glut of savings doesn't weaken growth in the economy, the Fed placing this glut with TBTF banks weakens growth in the economy. 
So, the idea Trump puts forward is sound, but getting the glut to flow into the real economy is a function of the Fed, not of fiscal spending. All fiscal government deficits will do is to increase the UST's available to Wall Street, without helping the economy in a sustained way. Only the Fed can help the economy in a sustained way.

That isn't to say spending on roads is a bad idea. It isn't. It is a good idea. But big deficits are not needed, since the economy is not doing so well and the deficits may increase anyway, without any additional spending. Taxing the wealthy, many of whom readily want to be taxed, would help our pitiful and needy roads.

But if the Fed, Williams in particular, has to resort to blaming a savings glut for the woes of the real economy in America, we have not budged off square one. We are getting nowhere.

In May, Donald Trump said he was for continuing low interest rates in order for the dollar not to strengthen, hurting trade. It is not unusual for him to take both sides of a political or economic position. He is also for higher and lower wages. So, for now, he is as confused as most real economists are, and as the Fed economists are, who have frozen up like Ice Age the movie.

We need a Jedi to blow up the R-Star, but Trump has only started the conversation. He isn't the guy who will blow it up. In order the blow it up, something will have to take the place of treasury bonds in the derivatives markets.  

For further reading:

Clearing Up Negative Interest Rate Confusion. Kocherlakota Weighs In

Timid Fed and Jeremy Stein and Potholes

Hoarding the New Gold: Early History About Structured Finance

Rules of Engagement


Friday, December 16, 2016

Timid Fed and Jeremy Stein and Potholes

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/bonds/timid-fed-and-jeremy-stein-and-potholes?post=105246&uid=4798

The Timid Fed, trying to muster the fortitude to raise interest rates by a measly .25 percent, does not listen to Harvard Professor Jeremy Stein. Before getting into Jeffrey P. Snider's examination of Professor Stein and shortages of collateral, it would be good to see some of the things Dr. Stein was proposing as a help to the real economy, through his research at the Federal Reserve.

Stein retired from the Fed, and he gave this assessment upon his exit from the institution:

If your only real concern is monetary policy implementation and controlling rates, I think then there’s lots of ways you can do it.
For example, suppose the RRP rate is 5 basis points and it’s creating a pretty tight floor at five. Meanwhile the interest on reserves is 25 basis points, so the federal funds rate is going to be between 5 and 25.
Now, suppose you wanted to raise rates a lot. One thing that would work perfectly well is to raise both of these things by 200 basis points. The fed funds rate would still be somewhere in the middle.
Professor Stein is first appears heroic in his desire to see rates raised by 200 basis points. His focus of research reflects his concern about the real economy more than about the derivatives economy. Prof Stein acknowledged what Kevin Erdmann has been saying, that during the Great Recession, there were not enough treasury bills in the Fed's war chest. Kevin goes on to say that this forced the Fed to terminate subprime, even the good subprime.

Stein said this:

If you think of financial stability policy, and some of the problems that we had leading up to the crisis, it was the search for safe assets. There weren’t enough T-bills so money funds went around searching for things that look like T-bills. If the government won’t make safe assets, then the private sector will make things that resemble safe assets, such as broker dealer repo, hedge fund repo, asset-backed commercial paper. [Emphasis mine]
My argument was that the Fed should have bought commercial paper way earlier than it did, as that market, which funded subprime, cratered in August, 2007.  Certainly, one would hope that if more paper of any kind is created, and considered safe assets, that the Fed would act as the lender of last resort, not waiting for the middle class to lose their assets while the Fed fiddles around. Many subprime loans were soundly underwritten.

It seems to me that creation of private, safe, assets is a superior exercise than fiscal deficit spending that could put the government at risk, all to give banks more of the new gold, UST's. 

I am not sure Stein is on board with the Fed being lender of last resort, saying everyone should not run to the Fed. He is likely talking about avoiding creation of safe assets that turn out to be not so safe, like many MBSes of the hurtful housing bubble which led to the Great Recession.

But damage can be done to the real economy when the Fed is not the lender of last resort. Stein seems to be a procyclical kind of guy, and that doesn't help much in times of trouble.

But the professor is clear about one thing, that the Fed should pay less attention to treasury bond holders than to the real economy.  He said:

“Society would be better off appointing a central banker who cares less about the bond market...”
But then Stein ruins this entire concept, turning less than heroic, by saying, along with his research partner, Adi Sunderam:

“We do not believe our model has much advice to give with respect to the near-term question of how rapidly the Fed should lift rates in the months following its liftoff from the zero lower bound,” they write. “It may be something that is better undertaken over a longer horizon, or at a time when the economy is in a less fragile state.”
So, when is this fragility expected to end? Truth is, readers, the economy is slow, but I believe it is far less fragile than the derivatives market. In other words, Stein is quite aware of the shortage of treasury bonds, of collateral for derivatives, that are hoarded. He wants that shortage situation relieved with private paper creation more than he wants rates raised by any significant amount. 

The Fed is stuck in timidity. The contrarian researcher, Stein, who stirred the pot for main street's needs, admits it. And the Fed is happy to be stuck because the Fed apparently either is giving up and is moving toward negative rates, or it thinks it has put an end to the business cycle and we will never have recessions again. What else are we to think? Those are the two goals spoken of from time to time in the financial media. Stein is likely one of the sharpest tools in the shed, and if he cannot figure out a way to grow the economy without hurting bond hoarders, er I mean bond holders, nobody can.

Jeremy Stein was also mentioned by Jeffrey P Snider on an article he posted on Talkmarkets, entitled Still Talking Collateral and Implying Shortage.

In that article, Jeffrey shares some very interesting charts regarding repo collateral fails. He indicates that since the toxic bonds are off the banks' balance sheets, these repo fails prove that there are shortages of said collateral. These repo transactions are anchored by UST's and by sound MBSes, so the fails indicate shortages.

But one thing is for sure, the creation of private, secure, asset backed private paper facilitates more good derivative behavior and more bad derivative behavior. But it would be nice if someday, fewer treasury bonds would be needed for use as collateral, so that their price action would reflect traditional values before derivatives became such a huge part of big finance.

And we hope that bad derivatives behavior and counterparty weakness, a worry of Alan Greenspan, won't come down on the small progress we have made in growing the real economy. And, lest the Fed become too complacent about the real economy, it seems obvious that there is loose money, easy money within the financial system and relatively tight money at the level of the real economy.

That tightness in the real economy could undermine the casino, home of the good and bad derivatives. Weak counterparties often have to do real business in the real economy. The Fed should think of Jeremy Stein once in awhile, as he at least made an attempt to make the Fed relative to mainstreet, and remember that weak counterparties to the banks could come back to rattle the entire system.

I don't always take much value from some of the articles I see posted in the New York Post, but these signs listed from author Michael Gray are worth watching, to see if the Fed really knows what it is doing, or ever will know again. If your pothole is being fixed that is a good sign, but if not, one has to wonder about a slow decline in the real economy.


Thursday, December 15, 2016

Libertarianism, the Good, Bad and Ugly

This article was published to my personal blog at Talkmarkets: http://www.talkmarkets.com/contributor/gary-anderson/blog/bonds/libertarianism-the-good-bad-and-ugly?post=110273&uid=4798

Most people don't take the time to understand Libertarianism, but they should. Libertarianism is a political movement with an economic school attached. That school is known as Austrian Economics. The Mises Institute, which attempts to bring libertarian/Austrian thought together in one place is located in Auburn, Alabama. It was founded by Lew Rockwell and Murray Rothbard.

Before discussing the really disturbing three ugly issues regarding Libertarianism, here is a quick rundown of political and economic beliefs contained within the philosophy that fascinate many people.

As to the political, I have a brief opinion. That is, Ludwig Von Mises, 20th century thinker whose name is affixed to the institute, believed that limited government was best. Whether limited government is the best way forward, or not, Mises has advocated it, but has not advocated the complete elimination of government, which is known as Anarcho Capitalism. Murray Rothbard, who was the lead teacher of the Mises Institute, and whose work is archived there, did believe in the total elimination of government.

Anarcho Capitalism advocates the elimination of the state in favor of the sovereignty of the individual and sovereignty of free markets. It is clearly what Murray Rothbard taught. There are major ethical and religious arguments against Anarcho Capitalism and against Libertarianism altogether. Rothbard appeared to hold some disturbing views regarding personal morality.

Political philosophers say lots of things, and write a lot of things. It can be hard to pin down what they say and people fight over what they say all of the time. However, I am confident that Mises said that the state must exist, albeit in limited form. There is a huge divide here between Mises and Rothbard.

As to the economics, the primary goal of Austrian Economics is to look at reality, and reject models. Since the Institute was founded in 1982, it pretty much preceded the mispricing of risk that lead to the housing bubble and subsequent economic crash known as the Great Recession.

          Murray Rothbard  http://picasaweb.google.com/MisesInstitute/RothbardImages#5400726827057738466

Using models instead of reality as to price risk did not work out so well in the Great Recession. One hopes current models will more closely be measured against reality but we can only trust modern economics and banking to deliver. That is likely the overriding fear of investors, that is, are those bankers getting it right this time? 

The three ugly beliefs held Libertarianism are as follows:

1. Libertarians believe in free association. But they extend that notion to public places and places of business. So, if a man of color were to be hungry, and there was no where else for him to eat, the Libertarian believes that free association gives the restaurant owner the right to refuse service.

This is what marginalized Rand Paul, as his senate career was marred by his opposition to the 1964 Civil Rights Act. That act limited free association to truly private associations, not public businesses, like restaurants. This also has led to some notions that personal morality, even the caring for children, Rothbard made this astounding and disturbing statement:

Applying our theory to parents and children, this means that a parent does not have the right to aggress against his children, but also that the parent should not have a legal obligation to feed, clothe, or educate his children, since such obligations would entail positive acts coerced upon the parent and depriving the parent of his rights. The parent therefore may not murder or mutilate his child, and the law properly outlaws a parent from doing so. But the parent should have the legal right not to feed the child, i.e., to allow it to die.2 The law, therefore, may not properly compel the parent to feed a child or to keep it alive.3

2. Libertarians believe in the invisible hand of self interest. This is both good and bad, depending on how it is formulated. Yes, capitalism overcame communism. People determining what they want to buy based on price and quality is a superior system to business telling individuals what they need to buy and how much they must pay for it. Exceptions are regulated monopolies like your electric company. But even many Libertarians would reject that regulation.

However, self interest is selfishness. The theory of the invisible hand was used to give banks freedom to lend to whomever they want, but then those very banks seek government bailouts when their loans go bad. In reality, profits are often privatized while loses are socialized, meaning government and taxpayers pay the cost of banker mistakes, or the debt simply increases. This bailout mentality no doubt discourages and angers the Libertarians.

And Ron Paul said the government steals from you in order to give social security to your those who don't work, and he would probably cut loose his own mother and grandmother in order to limit governmental assistance to the needy if he stayed true to his doctrine.

3. Libertarians believe that economic depressions are the same, and that it is ok to allow them which would cause animal spirits to take economic growth upward, solving the malaise. They point to the 1920-21 Depression as their example of how getting out of the way, on the part of government, would cause a rebound. However, there were differences between the 1921 Depression and the Great Depression.

It appears that the 1920-21 Depression did not have an accompanying banking crisis. In the Great Depression, commercial paper was destroyed, both for consumers and for business. In the Great Recession, CP was destroyed for the subprime market, pushing bad loans that were off the balance sheets back onto the balance sheets. An accompanying tightening of money, mark to market, interest paid on reserves, and slowing NGDP destroyed the HELOC market, which ultimately took away the middle class's ability to borrow. Marcus Nunez says this was the direct cause of the Great Recession.

Therefore, it is important to realize that leaving the banks to fail in a credit crisis will not have the pleasant result that Laissez Faire had in the 1920-21 depression.

So, then, there is much more to contemplate regarding Libertarianism. For example, when someone says they are libertarian, you really have to pay attention to what they mean and in the context in which they are speaking. Are they wanting to sell you gold? Are they fearful of the bond market? Are they afraid of the national debt? These are issues that are complex, and when people say they are Libertarian and have easy and simple explanations for complex situations, you have to be careful.

And there is massive demand for long bonds for use as collateral in the derivatives markets. Mises formulated his doctrine well before any of this structured finance existed. His school has no answer for the demand we see for bonds at near zero and sometimes below zero interest rates today.

It is important, in my opinion, to read Mises and of course, Rothbard, in the context of the complexities mentioned above, and not with a blind allegiance to the doctrine. Take the good ideas and leave the bad or the overly simplified and run from the ugly. Don't be herded into believing something that carries major flaws but has become a fervent religion to many.

For Further Reading:

The US Recession of 1920–1921: Some Austrian Myths

Critiques of Libertarianism (Exhaustive Study from the Left and Right.)

Sunday, December 11, 2016

The Fed Did Not Save Real Estate But Gives Banks Welfare Checks

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/us-markets/the-fed-did-not-save-real-estate-but-gives-banks-welfare-checks?post=104598&uid=4798

It is very clear that the Fed saved big business, but not the consumer real estate market. As we can see, the Fed has kept the money stock high, but the red line in the Fred chart below shows that home mortgages have taken a nosedive beginning with the Great Recession and continuing. Certainly the commercial banks lend in real estate, but it has been mostly for big business's benefit.

At the end of this article I will show, with the help of Kevin Erdmann, that all of subprime real estate did not deserve to die. But the Fed (a private bank according to the Lewis VS USA court case in 1982), killed it all anyway, and now gives banks welfare checks from the citizens of the United States in the form of interest on reserves (IOR). 

I think I know the reason why the Fed did this to the real estate market.  Steven Williamson, VP of the St Louis Federal Reserve Bank was kind enough to post my question:

Prof, I have a question for you. Why did Bernanke save big business but let the RE industry decline and crash in 2008? Was it because the bonds backing RE were inferior to the bonds backing big business? I noticed big business bonds are used as collateral more and more, and I don't know if MBSs are used again as collateral.

If that was the case, I am a bit disappointed in the Fed because the Fed adopted the flawed David X Li Copula that led to so many MBSs going bad. I would have thought the Fed had a responsibility to fix that mistake by saving the Commercial Paper market that was the foundation of subprime lending during that time.
Now, he didn't answer the question. But clearly, we can see what the Fed did to help big business in the aftermath of the Great Recession by being lender of last resort and forcing yields down. The Fed even saved junk bonds while killing subprime lending:
Federal Reserve Bank of St. Louis, Moody's Seasoned Baa Corporate Bond Yield Relative to Yield on 10-Year Treasury Constant Maturity [BAA10Y], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/BAA10Y, August 27, 2016. BofA Merrill Lynch, BofA Merrill Lynch US High Yield Option-Adjusted Spread© [BAMLH0A0HYM2], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/BAMLH0A0HYM2, August 27, 2016.

The Fed made no such efforts for the subprime housing market. In fact, since the banks sell their mortgages to Fannie and Freddie, which gives the mortgages a guarantee of government backing, those mortgages are sometimes purchased back by the banks. Like magic, the banks now have guaranteed mortgages. 

However, Fannie and Freddie will not buy mortgages saddled with high credit risks, even those that are carefully underwritten. Investors, and banks and hedge funds are buying the mortgages that have the government stamp of approval, which means risky mortgages are out.

This has forced many on main street to be forced to rent, and to endure massive rent inflation, especially in closed access cities like San Francisco, Los Angeles and Seattle. Closed access cities are those with high paying jobs and little new construction to alleviate demand.

It is clear that failed MBSs were not continued as a means of getting money into lenders' hands, but were rather bought up by the Fed, so that going forward, mortgages were only issued to low credit risk people. Securitization died when the Fed took this course of action. Not all securitization was bad but it all died.

This course of action also gave Wall Street the opportunity to loan to low credit risk people, who bought, in many cases, hundreds of houses.  The Fed also bought up guaranteed MBSs during QE, considering them to be as good as treasuries. This has likely contributed to an unintended consequence of massive rent appreciation.

Saving the corporate bonds also became important to the Fed. Killing the subprime lending market and saving big corporations became the goal of the Fed. And sure enough, the corporate bonds are becoming more valuable in the face of shortages of treasury bonds. Rather than buying treasuries for use as collateral, investors can buy corporate bonds, and use them as collateral with a haircut. But they still continue to get a return on those bonds they pledge as collateral.

Kevin Erdmann, whose blog I recommend adding to your reading list, has clearly shown that all of subprime did not deserve to die. Kevin said:

At the end of 2007, the private securitization market collapsed.  But, at the same time, bank lending and GSE lending also leveled out.  As I have pointed out, most of the decline in lower priced homes came well after the mortgage market for those areas was practically shut down.  Low priced zip codes in places like Texas and Georgia were losing value in 2009 and after, even though they had never been particularly high, especially considering the low interest rate levels.  But, interest rates don't matter much if you can't get past underwriting.  Interest rates, and relative costs in general, clearly are not the constraint at the low end of the buyer market, and any analysis that pretends such seems to me like an effort to fit the square peg of past housing constraints into the round hole of the current context.

Kevin goes on to make the case that in 2007-2008, the Fed's method of sterilization of stimulus was to shut down credit to subprime real estate transactions. Apparently the Fed cares more about sterilization than it does about GDP. Kevin found another FRED chart that shows exactly that. Money stock is high and GDP is low:

This makes one clearly wonder why the Fed wants to raise rates? While, certainly, no one wants to bump along the zero lower bound, clearly the Fed is willing to lie about the growth in the economy in order to make sure that the banks are not going to go broke like many of them are in Europe under a negative rate regime.

Don't be fooled readers, the Fed is not interested in the real economy growing, unless you convince yourselves that raising rates will bring a little inflation. I suppose Neo-Fisherism is possible, but not without at least an attempt to create a small subprime window. The Fed is more interested in banks getting a raise in their welfare checks, the interest on reserves (IOR), that comes with raising rates, than in helping the poor get housing and escape the rent inflation that is clearly an unintended consequence of Fed actions.

The Fed killed subprime completely in order to just sterilize stimulus to the banks, and that just seems wrong on every level of human consideration. Sacrificing the poor and lower middle citizenry to sterilize stimulus to banks because you ran out of bonds could be considered diabolical behavior, especially since the Fed and Basel mispriced risk for much of subprime in the first place.

The banks are loaded with excess reserves. Now, the banks cannot loan out those reserves, because, as Prof Williamson explained to me, they are assets. But the Fed could loan out against those assets up to 10 to 1. Nobody wants them all loaned out, as that would amount to around 24 trillion dollars. But surely the banks would lend out some against the excess reserves, instead of just collecting welfare checks from the taxpayers. You would think. 

Thursday, December 8, 2016

Congress’ Rotten Idea for Fighting Anti-Semitism


Thank you, NY Post. I don't often agree with you, but your author, Jacob Sullum, has boldly told the truth to our  United States Senate with these words:

Last week, the Anti-Semitism Awareness Act of 2016, a k a S. 10, was introduced in the Senate, read three times, and approved by unanimous consent without debate or amendment — all on one day. 


S. 10, introduced by Sens. Tim Scott (R-SC) and Robert Casey Jr. (D-Pa.), codifies a controversial State Department definition of anti-Semitism that includes one-sided criticism of Israel and opposition to Zionism.Last year, the University of California declined to adopt that definition based on concerns that it would violate the First Amendment by deterring pro-Palestinian activism.

Again, thank you Jacob! Please read the link above to Jacob's article to fully understand what is at stake with the colleges and this very evil law.  Jacob Sullum is a Jerusalem-based editor at Reason magazine and a syndicated columnist.

Sunday, December 4, 2016

Trump IV - Causes of An Economic Crisis and My Response

This controversial, but interesting article was published at Talkmarkets by Michael Taylor at Bankers Anonymous: http://www.talkmarkets.com/content/economics--politics/trump-part-iv--the-causes-and-uses-of-an-economic-crisis?post=114632&uid=4798

And this was my response:

Fascinating article, but where to start?

First, Trump may be anti Semitic. But he is pro Zionist. People should know that Zionism and Judaism are really not historically linked. Judaism,a religion, existed for thousands of years and Zionism, a political doctrine, was formulated in the late 1800's. It would be good if people learned that there are differences, like the British Court ruled.

Also, he is not a tolerant person. Tolerance is key in these times. I do worry about his tendencies towards authoritarianism when times get tough, and they likely will.

Second, Trump does hit a populist chord. He is threatening tariffs, and that is probably a good thing to threaten. We are getting killed with loss of manufacturing. I posted this quote in my article, Michael:

"In comparison to Figure 1A, the related-party exports shown as a share of overall U.S. exports in Figure 1B indicate that offshoring is a two-way street. Multinational companies from other countries are locating production in the United States for sale in other countries’ markets but are doing so at a much lower rate than the U.S.-based companies locating production offshore to supply goods to the U.S. market." Emphasis mine. www.talkmarkets.com/.../trumps-carrier-deal-bankstechnology-and-freedom

Third, the Fed has been trying, compared to other central banks, to lift us off zero. But more needs to be done. He cannot threaten to renegotiate our debt or we will be in big trouble. But he can issue 100-year bonds, and that would at least allow for spending without the crunch of short term debt: www.talkmarkets.com/.../trump-should-absolutely-issue-100-year-bonds

Banks are supposed to exist to help the real economy. All they seem to do is help big business that has workers captive to worldwide labor arbitrage. You can see why wide swaths of the US, most of the counties in the United States, rejected the globalist world view. I just hope Donald Trump has the wisdom to act thoughtfully, and not by uninformed reaction.

Paul Krugman wants to Bless Us, But It Is Mostly for Wall Street

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/bonds/paul-krugman-wants-to-bless-us-but-it-is-mostly-for-wall-street?post=103243&uid=4798

The following is a slightly tongue in cheek interpretation of Paul Krugman's ideas based on the history of Alexander Hamilton, versus my fantasy for America and there may be a still better third option discussed at the end of this article. One thing is certain, we do not live in the age of Alexander Hamilton.

My economic fantasy for America is the hope that the treasury will keep some of its valuable gold for all of us. I am not talking about the inferior stuff, the gold that may or may not be at Fort Knox. No, I am talking about the superior gold, the treasury bonds that we could use to make money for the government. In the derivatives markets, treasury bonds are more valuable than gold itself!

Capitalism in the form of structured finance is failing main street. My fantasy is that the government would engage in a little capitalism of its own and spread the wealth. My fantasy has few takers. Mr Krugman's ideas, on the other hand, are embraced by the New York Times and media all over the world. He wants the government to spend more. I will explain exactly why he wants that spending in a moment.

 If you think my fantasy is so far off base, you need to gain a glimpse into the really interesting, yet startling things Paul Krugman throws out once in awhile. He is quite entertaining, and yet he is very influential. If you think my idea for the government to engage in structured finance is insanely wild, Krugman seeks to convince us that we are blessed if we give Wall Street the gold for its own structured finance. He writes to a solution regarding the hot button issue in macro economics, the shortage of bonds, the new gold, as collateral. Wall Street loves him. He won a Nobel Prize.

Krugman joins others I have written about, Kocherlakota, Summers, and many others who are worried about the shortage of collateral, ie, the shortage of bonds as gold, which could have the effect of slowing down the economy. I don't disagree with this likely shortage. But why do we always have to establish solutions that make for a better deal for Wall Street and a worse deal for our nation?

   The Krugman article that contains this quote appeared recently in the New York Times where he said:

...That is, bonds issued by the U.S. government would provide a safe, easily traded asset that the private sector could use as a store of value, as collateral for deals, and in general as a lubricant for business activity. As a result, the debt would become a “national blessing,” making the economy more productive....[emphasis mine]
 ...This argument anticipates, to a remarkable degree, one of the hottest ideas in modern macroeconomics: the notion that we are suffering from a global “safe asset shortage.” The private sector, according to this argument, can’t function well without a sufficient pool of assets whose value isn’t in question — and for a variety of reasons, there just aren’t enough such assets these days....
Krugman revisits early efforts by the US government and newly formed central bank, to cope with speculation, a credit crisis, and a run on the Bank of the US. I looked into that episode a little more:

 In late December of 1791, the price of securities began to increase once again, and the eventual crash in March of 1792 caused many investors to panic and withdraw their money from the Bank of the United States.[1] One of the primary causes of the sudden run on the bank was the failure of a scheme created by William Duer, Alexander Macomb and other bankers in the winter of 1791. Duer and Macomb’s plan was to use large loans to gain control of the US debt securities market because other investors needed those securities to make payments on stocks in the Bank of the United States.[2] [Emphasis mine]

...As Duer and Macomb defaulted on their contracts and found themselves in prison, the price of securities fell more than 20%, all in the matter of weeks.[2]
This hoarding of bonds was not structured finance as we see happening in modern times.  It was an attempt to corner the market so that those who used bonds would have to pay more for them. Hamilton kicked in a brilliant plan to restore confidence to the markets:

...In a series of letters to Seton at the Bank of New York, Hamilton introduced several measures to restore normalcy to the securities market. Hamilton encouraged the bank to continue offering loans collateralized by US debt securities, but at a slightly increased rate of interest – seven percent instead of six.[3] In order to persuade the Bank of New York to lend during the panic...
The central bank promised to purchase excessive collateral from the lending institutions. It turns out that Hamilton's efforts were decidedly CounterCyclical, as opposed to the procyclical efforts to withdraw credit in times of distress and flood the system with credit when times are good!

Hamilton preceded and succeeded in implementing Bagehot's Dictum, which is:

Lend freely, against good collateral, at a penalty rate" is still considered the gold standard for managing a financial panic as the "lender of last resort.
One wonders if the central bank forgot to be the lender of last resort in 2008? Continuing to offer loans was something missing from the Ben Bernanke plan of 2008. The Commercial Paper Market imploded and no efforts were made to revive it, and it destroyed real estate markets everywhere, even where many of the loans were sound. 

So, the result was the Fed focusing on big business, because it still had good collateral. It brought rates down (which exploded in the Great Recession) so that corporate bonds, even though subject to a 20 percent haircut, would be good collateral once again.

Here is an online flyer pitching the benefits of using corporate collateral for interest rate swaps and futures. It has the subtitle: Corporate Bonds as Collateral for Cleared Interest Rate Swaps and Futures.

Certainly, oil market bonds-as-collateral are often junk bonds, priced high with yields that do not necessarily reflect their risk. I wonder if the Fed would throw the oil industry under the bus (like it threw real estate) if it ever decided the collateral for oil was bad!

Cynical me believes that investors really want more treasuries to bypass all haircuts. A 20 percent haircut is a lot.

So, this brings us back to Krugman. He says it is a blessing that we establish deficit spending. He is confident that bond yields won't rise too much, due to massive demand for bonds. I happen to agree with that, but they may continue to decline as well, after the first issuance.

But would massive deficit spending be a blessing, as we get a little infrastructure while Wall Street gets the collateral to make deals? ? That isn't a fair trade if you ask me. Would Paul Krugman's plan be any better than the fantasy I expressed in the opening of my article, that the treasury could keep the bonds and do deals with them to make money for main street?

Fellow citizens, we are being ripped off. Our government owns the gold, and it belongs to us. It didn't used to be this valuable until the advent of structured finance with the blessing of Alan Greenspan in the 1980's. Truth is, the treasury sells the valuable bonds-as-gold for a pittance, and Wall Street makes a killing off of the results. We are so blessed we can hardly stand it.

We citizens, of this great nation, are prisoners to structured finance. Let's turn Wall Street and structured finance into the slave of government, prisoners of us, the people! That cannot be more insane than Paul Krugman calling deficit spending to make Wall Street richer, a blessing. Even Alexander Hamilton did not establish a New Normal of slow growth when he sought to have a few treasury bonds available for business.

So, because Krugman's plan is too lopsidedly beneficial to Wall Street at citizen expense, and my fantasy could get a bit complicated, it would be a lot simpler for the Fed to consider real helicopter money before considering deficit spending. At least people could afford to pay a little more tax if they had a real helicopter drop come their way and a stable tax base is what existed in Hamilton's time.

Hamilton's national bank did not establish structured finance for a massive derivatives program that lends itself to bond hoarding and a growing financial sector at the expense of the real economy. Krugman wants us to think that he would have approved of Americans being ripped off for the sake of Wall Street. I don't think he would have approved at all.

No, I bet Hamilton would have liked my two ideas better, because he was more concerned about the increase in the money supply, which is now depressed on main street, and in helping the real economy. Krugman and progressives thought regulation of the derivatives markets through Dodd-Frank's clearinghouses would help stabilize the financial system. And it seemed like a good idea.

But creating more demand for treasury bonds as the collateral of choice, and with that the creation of these bond shortages, has serious unintended consequences. Swaps are bets, and creating massive deficits in order to provide collateral for gambling by the uber rich could destroy the fiscal soundness of the American government in a down turn. Get your gambling collateral from somewhere else, Wall Street. Or pay a premium price to we the people.

For further reading:

Hoarding the New Gold: Early History About Structured Finance

Economists Reveal Massive Market Forces In Bonds Before And After QE