Monetary Policy

While Fisher, among others, believes that the recent fall in inflation is solely due to collapsing energy and crop prices, the issue of weakening economic data on a global scale, particularly that of China, may suggest much less transient nature. As we stated previously, we think the Fed realizes that we are likely closer to the next recession than not. While raising interest rates may accelerate the pace to the next recession, it is better than being caught with rates at zero when it does occur.

"Monetary policy can’t solve the problems we face," warns German finance minister Wolfgang Schaeuble, daring to admit that monetary policy-makers "are moving in a direction which is very dangerous" with regard to excess global liquidity. Amid fears of fed tightening and demands for BoJ and PBOC easing, it appears Europe's leadership fears the consequences of a "market bubble" as the global economy is awash in more public and private debt relative to GDP than at any time post-WWII.

This level of global inter-connected financial risk is hazardous in Mexico, where it’s peppered by high bank concentration risk. No one wants another major financial crisis. Yet, that’s where we are headed absent major reconstructions of the banking framework and the central bank policies that exude extreme power over global economies and markets, in the US, Mexico, and throughout the world. Mexico’s problems could again ripple through Latin America where eroding confidence, volatility, and US dollar strength are already hurting economies and markets. The difference is that now, in contrast to the 1980s and 1990s debt crises, loan and bond amounts have not just been extended by private banks, but subsidized by the Fed and the ECB.  The risk platform is elevated. The fall, for both Mexico and its trading partners like the US, likely much harder.

Market participants, be they lenders or borrowers, know that “easy money” has an expiry date. If The FOMC raises rates, "we foresee negative effects on world GDP in the medium term, not only for emerging markets but also for industrialized economies." In other words, though emerging markets – through their dependence on capital inflows – will be at risk when America’s monetary policy eventually returns to “normal,” the same will be true for advanced economies.

This is getting way too stupid. The Keynesian Chorus has launched a full blast trilling campaign, emitting an increasingly shrill cackle of warnings against a Fed rate hike. Yes, 80 months of pumping free money into the canyons of Wall Street is not enough. Why? Well, this is hard to type with a straight face, but according to the cackling gaggle of Keynesian Chicken Littles, the Fed has already tightened too much!

It has become virtually impossible to differentiate between actual central bank intervention, hopes of central bank intervention, and how the two interplay on what was once the "market" but is now merely the place where money printers duke it out every day in some pretense of price discovery set by those who literally print money.

The growing roar of 'the establishment' crying for help from The Fed should make investors nervous. While your friendly local asset-getherer and TV-talking-head will proclaim how a rate-hike is so positive for the economy and stocks, we wonder why it is that The IMF, The World Bank, Larry Summers (twice), Goldman Sachs, China (twice), and now no lessor nobel-winner than Paul Krugman has demanded that The Fed not hike rates for fear of  - generally speaking - "panic and turmoil," however, as Krugman notes, “I think it would be a terrible mistake to move. But I’m not confident that they won’t make a mistake."

The Minneapolis Fed's Narayana Kocherlakota is at it again, suggesting that if Congress really cares about dragging the US economy out of the post-crisis doldrums, it will give the Fed more rope by issuing more debt.

"We believe a global recession scenario has become the most likely global macroeconomic scenario for the next two years or so. Helicopter money drops would be the best instrument to tackle a downturn in all DMs. We expect to see QE #N, where N could become a large integer, as part of the monetary policy response in the US and the UK, and QEE2 in Japan." 

• All surveyed analysts expect the Bank of England to keep monetary policy unchanged, with the bank rate at 0.5% and the Asset Purchase Facility at GBP 375bln
• Headline UK CPI printed at 0.1% for July, still well below the BoE’s mandated 2% target
• The accompanying minutes release is expected to once again show an 8-1 vote split in favour of keeping rates on hold

• Global stocks rally as investors scent fresh stimulus (Reuters)
• Japan's Nikkei 225 Rises 7.7% for Biggest Gain Since October 2008 (BBG)
• China's Stocks Advance for Second Day Amid Stimulus Speculation (BBG)
• Abe Pledges Corporate Tax Cut as Investments Slump (BBG)
• U.S. to shift 50 staff to boost office handling Clinton emails (Reuters)
• Chinese Premier Li Keqiang Says China Doesn't Want a Currency War (BBG)
• One Thing China Got Right (BBG)

When it comes to crisis, SocGen notes that there is an abundance of case studies; and against the backdrop of the uncertainty shock delivered by China and the subsequent market tumult, market participants have been looking to the history books for clues as to what could happen next. While individual crises create their own risks, SocGen warns, the overriding risk  is that markets are taking less comfort today from the idea that central banks may step in with further QE-style liquidity injections to save the world.

Thanks to the new normal world of extremely loose monetary policy and extraordinary accumulations of financial assets by Central Banks, Deutsche Bank finds that we live in a period not of selectively expensive global asset prices, but of record "expensiveness" across developed market bonds, stocks, and real estate.

"We shouldn't pass on the bill for the tasks that are facing us now to future generations. Being in favour of more debt and a further flooding of the markets with central bank money is neither original nor serious."