Is It Possible To Talk Out of Four Sides of Your Mouth?
With Deutsche Bank hitting a fresh all time low today and getting within striking distance of the psychologically important $10 price point, we just might find out the answer to the question in the title of this article. That’s right ladies and gentlemen… Back again for the very first time, fighting out of Jekyll Island, in the green trunks with the white trim: it’s THE FEDERAL RESERVE! Everyone’s favorite central bank – based on the way economists, investors, and most importantly trading algorithms hang on every jot and tittle of its mouthpieces and press releases – is set to make another policy announcement this week, which means that we’ll get to hear once again from our dear monetary grandmother.
She’s so sweet! I hear she’s baked some gingerbread cookies in the shape of doves… Or are they hawks? Trillions of dollars in currency, bond, and stock markets are apparently at stake, so let’s get into a bit of analysis. I don’t know what the Fed will do or what Janet Yellen will say, but I have some suppositions. It seems to me that our benevolent economic policymasters have a dilemma that all the upturned noses that decades of academic tuition can buy simply can’t create a proper model for.
On one hand, the Fed could raise rates. I don’t think they can or will because they observed the negative reaction in the equity market last December into this year. Recall that 2016 saw the roughest start for stock markets in history. It was only when Yellen put in some calls to Carney and Draghi that the markets bottomed hard in February. We’ve been floating about ever since with only a Brexit hiccup to expose some minor monetary withdrawal symptoms.
Why won’t the Fed raise rates? I think that they know doing so would prick the bubble, lead to additional insolvencies and uncertainties, and lead to another correction if not an outright bear market in stocks that could unfold rather quickly. If this happened before the election, then Donald Trump’s rhetoric about the Fed and the economy would be given more credence and he would stand a better chance of winning as the tide of perception turns out even more on the establishment and their institutions. If Trump is elected then everything is on the table. Yellen would almost certainly be out of a job, and even more extreme scenarios – like a full audit – would be in play.
I know, I know… Perish the thought, Janet. So, assuming that a rate hike is off the table, the real question is will the Fed go full-on dove and take December off the table as well or will they still persist with the ‘every meeting is live’ and ‘data dependent’ narratives? The key here is understanding the goals and potential effects of either option.
The Fed has all along claimed to be data dependent when it comes to rates. It has also maintained that its policy of zero interest rates for a decade as well as trillions of quantitative easing – printing money to buy bonds – has been effective. The problem with data dependence is that the Fed moved the goalposts on raising rates when the official unemployment rate breached their specific thresholds. Now they are ignoring core inflation data that is above their stated 2% target on an annualized basis for 10 months. Something is going to have to give, and there are risks on all sides.
If the Fed wants to support the markets and make sure everything is peaceful through November in order to bolster the chances of Hillary Clinton – the status quo / establishment / incumbent candidate – winning the election, then they will have to take the December rate hike off the table as well or start talking more seriously about potential easing measures. Here Yellen has a conundrum. If this is the message, then the ‘everything is awesome’ with the economy narrative will have to be thrown overboard. Even brain dead PhD economists and professional financial commentators will conclude that if the Fed is going to reverse course in rhetoric and policy from tightening to easing the economy is not simply too weak to endure tightening monetary policy: it is so weak that it requires additional stimulus.
This doesn’t seem viable because the objective of the policy decision to swing dovish would be undermined by the effect of that very policy because of the impact on perception of the economy and sentiment. For years people have believed the Fed rather than their own eyes and hard data about the current economic state of affairs, and the disconnect between policy and rhetoric may now be too wide to ignore if they move in the direction of further easing.
Let’s take a look back at data dependence. If a December rate hike or further easing measures is off the table because of the dynamic described above, then we will get a scenario where the Fed keeps rates constant, tries to kick the can to December, and spins the normal sort of rhetoric that we’ve seen for years: They are monitoring the data closely. The jobs market is strong but not strong enough. Things are good but our targets haven’t been hit.
On and on we go on the world’s most expensive and boring carousel.
This time, however, the Fed may be in a corner. They were in a different corner last December with respect to their credibility. Virtually everyone expected the Fed to raise rates to the point where they would have lost too much credibility if they failed to do so. The economic recovery and stability narrative would have collapsed with demands for an explanation in the absence of any obvious scapegoat catalysts – usually international like Greece, China, and Brexit. There was also likely a more technical element of the reverse repurchase market and the illusion of bank solvency involved, but that’s for another time.
Now we are walking into a scenario where the same extend and pretend playbook might not work. Even mainstream media outlets are calling out the Fed on data dependence. If the Fed simply pushes things to after the election, the perception that they are data dependent, apolitical, independent, and even competent will suffer. Because the entire financial system at this point is built on confidence, specifically confidence in central banks, the Fed risks committing a policy failure if it goes with what it has done for all these years: barking without the bite.
None of these scenarios are desirable for the Fed, but it may be possible that there’s no way to keep all the plates in the air. Something may have to give unless Janet Yellen can talk out of four sides of her mouth.
Stay tuned to see if Yellen can pull off this seemingly impossible feat!
I wouldn’t take her job for all the gold in Fort Knox… I know, I know. It’s fine. I’ll revise. I wouldn’t take her job for all the gold in the White Dragon vaults. No, no, no I swear I’m not a deplorable! I’m talking ancient Chinese banking dynasties here! Oh well, guess I just moved up on a list. Whatever. The ordo ab chao gang is going to do its thing, but there is a power inestimably beyond theirs. Thank you Jesus!
Regardless, I think the final scenario discussed is the most likely one. If it leads to a tipping point in confidence, then we’ll see the ramifications sooner rather than later. First up is the Bank of Japan tonight. Yellen is on deck. Let’s wait and see. As they say on Zero Hedge: get your popcorn ready.
In any potential scenario that could arise The Amateur Society continues to prefer precious metals as an asset class. The only way you’ve done better in 2016 is by hoarding sugar and orange juice:
My recommendation is to continue to buy dips in the metals and accumulate. Take advantage of the opportunity if they knock the price down this week. I’ll be doing so. Always keep in mind that none of this should be construed as investment advice, and it is intended for educational purposes only. Do your own research and consult your friendly neighborhood financial professional.
Steven Menking posts on the Amateur Society website. or more great articles that inform\, educate, and equipment click here.