Don’t Blame the Fed for Low Rates (Blame Obama)

[mountaineer]

Don’t Blame the Fed for Low Rates
By William Poole
This article appeared in The Wall Street Journal on November 24, 2015
Reposted at Cato Institute

The frequent claim that Federal Reserve Chair Janet Yellen and her colleagues are responsible for continuing low rates of interest may be correct in the small, but not in the large. The Fed does set the federal-funds rate—the overnight interest banks charge to lend to each other—and surely affects the timing of rate changes, but not the longer-run level. The real villain behind low interest rates is President Obama.

Long-term rates reflect weak job creation and credit demand. As the Fed correctly points out in its Statement on Longer-Run Goals and Monetary Policy Strategy: “The maximum level of employment is largely determined by non-monetary factors that affect the structure and dynamics of the labor market.” The same argument applies to all real variables, such as the rate of productivity growth.

The Fed has successfully kept inflation close to its 2% target. But the real rate of interest, currently negative for short-term interest rates and only slightly positive for long rates, is a consequence of non-monetary conditions that have held the economy back.

The recovery since the recession trough in June 2009 has been the weakest since World War II. Why? Disincentives to business investment deserve special notice. Despite the lowest interest rates for a sustained period since the 1930s, business investment has exhibited weak growth. Lagging business investment has meant smaller than usual demands in credit markets, and thus low interest rates.

The Obama administration has created one disincentive after another. One is the failure to pursue tax reform and the president’s insistence on higher tax rates. Another is the constraint on investment flowing from environmental activism. Cancellation of the Keystone XL pipeline is a metaphor for the entire range of environmental policies that inhibit growth. Businesses cannot expand if they cannot obtain the required permits.

The regulatory environment is a disaster, ranging from growth-killing overreach in the Affordable Care Act and Dodd-Frank to the Consumer Financial Protection Bureau, the Environmental Protection Agency and the Labor Department. The Federal Reserve is not responsible for this mess.

The Fed is responsible, however, for not defending itself by explaining to Congress and the public what is going on. The Fed is too afraid politically to mention any details of its general position that it cannot do the job on its own. Yes, there are “headwinds,” but they are largely the doing of the administration. I say largely because some of the problems have been inherited from prior administrations. The Obama administration didn’t create Fannie Mae and Freddie Mac, for instance, or the government’s affordable-housing goals—both of which fueled the 2008 financial crisis.

But the Obama administration has failed to correct the economic problems it inherited. It has simply piled on more and more disincentives to growth. These disincentives have kept long-term rates low.

At a recent seminar I attended, the financial analysts had a hard time predicting when the rates might go up. Some thought it would be the end of 2015, but it probably won't be until the end of March, the analysts said.

[Oceander]

Don’t Blame the Fed for Low Rates
By William Poole
This article appeared in The Wall Street Journal on November 24, 2015
Reposted at Cato InstituteAt a recent seminar I attended, the financial analysts had a hard time predicting when the rates might go up. Some thought it would be the end of 2015, but it probably won't be until the end of March, the analysts said.

It'll take something really awful, like stagflation setting in, because right now the short term effects are too unpalatable politically.

[mountaineer]

Just received of JPMorganChase via email (something they send to their clients):

Economic Commentary: The runway is clear, but divergences persist 

December 4th, 2015   

The payroll report released today showed that 211,000 jobs were added in November, which was inline with estimates. While the unemployment rate held steady at 5%, the underemployment (which is a broader measure of unemployment) rate and the labor force participation rate ticked up slightly, an indication that there is still slack in the labor market that needs to be worked through.  These measures are especially important to the FOMC as the committee, and especially Janet Yellen, believe that accommodative monetary policy will help individuals attain full time employment. With wages coming in at a benign 2.3% YoY, we have yet to see strong signs of wages accelerating, as this has broadly been the trend since the crisis. With the payroll report not showing any signs of a deteriorating US economy, and other macro indicators showing stability abroad, we expect the FOMC to raise rates for the first time since the crisis on December 16th. But, with the benign wage growth environment, we still expect the pace of hikes after the first meeting to be fairly slow.   

This call for a first rate hike at the December meeting was reinforced further this week by public comments made by Yellen at the Economic Club of Washington and in front of the Joint Economic Committee of Congress. She reiterated the strength of the US domestic economy, in terms of the continued improvement in the labor market and in household balance sheets, which is driving domestic demand higher. We are not of the view that the Fed goes ‘once and done,’ hiking in December to remain on hold throughout a significant portion of 2016. We think that the Fed will want to hike rates once a quarter in 2016, a pace which is roughly half as fast as the last rate hike cycle from 2004-2006. This slow pace is justified by the still elevated level of labor market slack out there which is keeping the acceleration in economywide wages gradual. However, the PB Economics team expects a slightly slower pace of tightening than one hike a quarter, due to the persistent drag on US manufacturing from the strong US dollar and weak global growth. We look for the upper bound of the federal funds rate to settle at around 125bps at the end of 2016, a pace of tightening which is one hike faster than the market’s expectation of 100bps. At this point, with the payroll report in hand, all hurdles have been overcome, and the FOMC has a clear path towards hiking rates at the next meeting. 

This week also saw action by the ECB, which eased monetary policy further on two notable fronts: a cut in the deposit rate (the main policy rate of the ECB), driving it further into negative territory (to -30bps), and an extension of the ECB’s monthly €60 billion quantitative easing (QE) program end date, from September 2016 to March 2017. These measures were not enough to appease the market’s dovish appetite, which is why the EUR-USD exchange rate popped from ~1.06 to 1.09 and stocks sold off globally following the ECB’s policy announcement. We view the market’s reaction to the ECB this week as a classic example of expectations getting too far ahead of reality. It is true that monetary policy divergence between the Fed and the ECB is happening and will become more apparent in 2016. If you extrapolate the extension of the ECB’s QE program into the total stock of government bonds the ECB is on pace to purchase, the 

ECB’s holding will represent roughly 13% of the total stock of government bonds issued in Europe by March 2017. The same number for the Fed is 17% (after three rounds of QE from 2008-2013). This difference in ‘QE market share,’ coupled with the demand shortfall in some European countries, notably Spain and Italy, means that the ECB is likely not done expanding its QE program. Further cuts in the deposit rate are equally likely. 

In short, our view is that the economic fundamentals will continue to drive the Fed and ECB apart in 2016. We look for EUR-USD weakness, especially following this week’s move, and see cyclical upside next year in European equities. In terms of US equities, we favor a more nuanced approach, recommending select subsectors, as monetary policy divergences will weigh on externally exposed sectors and the end of the commodity supercycle will weigh on energy and materials stocks.

[GourmetDan]

 
You do realize that the gov't manipulates the data it reports in order to justify the actions it wants to take?

The Fed has a 'velocity' problem and needs to get all that QE rolling to generate some inflation.

That's what the 'rate hike' is about... increasing monetary velocity...

[GourmetDan]

 
Most of the time QE is inflationary, but when the Fed engaged in the latest round they actually made it deflationary because the banks could make risk-free profits by parking excess funds at the Fed and earning interest.  As a result, Fed deposits from banks went up 1,000x and all that cash went into buying T-bills (gov't spending) keeping rates low but doing nothing to stimulate the economy.  Of course, those who are 'in the know' got to position themselves to profit from the inevitable deflation in commodities and a stronger dollar.

Now, the Fed needs to get this money-ball rolling by increasing short-term rates so that the banks start pulling their money out of the Fed and lending it.  This will generate an increase in inflation and a weaker dollar because interest rates are still too low to siphon off any meaningful amount of QE.  Expect commodities prices and inflation to start increasing as the Fed raises rates.  Hopefully, the Fed can effectively manage the inflation that is coming.

Again, those who are 'in the know' are positioning themselves to profit from future inflation.  Prolly the same people who are buying all of these oil assets that are on sale due to the oil price collapse.

And that is how the central-banking game is played... over and over and over and...

[Free Vulcan]

Most of the time QE is inflationary, but when the Fed engaged in the latest round they actually made it deflationary because the banks could make risk-free profits by parking excess funds at the Fed and earning interest.  As a result, Fed deposits from banks went up 1,000x and all that cash went into buying T-bills (gov't spending) keeping rates low but doing nothing to stimulate the economy.  Of course, those who are 'in the know' got to position themselves to profit from the inevitable deflation in commodities and a stronger dollar.

Now, the Fed needs to get this money-ball rolling by increasing short-term rates so that the banks start pulling their money out of the Fed and lending it.  This will generate an increase in inflation and a weaker dollar because interest rates are still too low to siphon off any meaningful amount of QE.  Expect commodities prices and inflation to start increasing as the Fed raises rates.  Hopefully, the Fed can effectively manage the inflation that is coming.

Again, those who are 'in the know' are positioning themselves to profit from future inflation.  Prolly the same people who are buying all of these oil assets that are on sale due to the oil price collapse.

And that is how the central-banking game is played... over and over and over and...

Very interesting and excellent monetary analysis. I have wondered why the Fed is so adamant on raising rates in such a mediocre if not fragile economy. Their thinking at least.

They are betting that the long end of the yield curve will balloon out at a faster rate than the short end, creating enough spread for banks to do the business of banking again. Hope they're not wrong.

[GourmetDan]

Very interesting and excellent monetary analysis. I have wondered why the Fed is so adamant on raising rates in such a mediocre if not fragile economy. Their thinking at least.

They are betting that the long end of the yield curve will balloon out at a faster rate than the short end, creating enough spread for banks to do the business of banking again. Hope they're not wrong.

Wish I could take credit for it... but I can't.  It's from Stewart Thomson who is a retired Merrill Lynch broker and now president of Graceland Investment Management (Cayman) Ltd.

He writes a daily economic update and is very reasonable (< $200 for 6 months) if you have much at risk in the markets.  He seems to understand them... and is very entertaining as well.  I have been getting his updates for several years and get no compensation for this recommendation.   You can google him and read some of his past analysis for free.