While Koo-nesianism is only one ideological branch removed from Keynesianism, Nomura's Richard Koo's diagnosis of the crisis the advanced economies of the world faces has been spot on. We have discussed the concept of the balance sheet recession many times and this three-and-a-half minute clip from Bloomberg TV provides the most succinct explanation of not just how we got here but why the Fed is now impotent (which may come as a surprise to those buying stocks) and why it is the fiscal cliff that everyone should be worried about. As Koo notes, the US "is beginning to look more like Japan... going through the same process that Japan went through 15 years earlier." The Japanese experience made it clear that when the private sector is minimizing debt (or deleveraging) with very low interest rates, there is little that monetary policy can do. The government cannot tell the private sector don't repay your balance sheets because private sector must repair its balance sheets. In Koo's words: "the only thing the government can do is to spend the money that the private sector has saved and put that back into the income stream" - which (rightly or wrongly) places the US economy in the hands of the US Congress (and makes the Fed irrelevant).
Today as was the case a month ago, everything ultimately hinges on Germany. Political intrigues aside, Germany is just about out of money. And Merkel has to decide… save Germany or save the EU. Only one of these options is even possible at this point (save Germany) as the EU is beyond saving.
What the Fed did was actually much more than QE3. Call it QE3-plus... a gift that will now keep on giving. The new normal of bad news being good news is now going to be more fully entrenched for the market and 'housing data' (the most trustworthy of data) - clearly the Fed's preferred transmission mechanism - is now front-and-center in driving volatility. I don't think this latest Fed action does anything more for the economy than the previous rounds did. It's just an added reminder of how screwed up the economy really is and that the U.S. is much closer to resembling Japan of the past two decades than is generally recognized. It would seem as though the Fed's macro models have a massive coefficient for the 'wealth effect' factor. The wealth effect may well stimulate economic activity at the bottom of an inventory or a normal business cycle. But this factor is really irrelevant at the trough of a balance sheet/delivering recession. The economy is suffering from a shortage of aggregate demand. Full stop. It just perpetuates the inequality that is building up in the country, and while this is not a headline maker, it is a real long term risk for the health of the country, from a social stability perspective as well.
Against what seemed logical (given the assumption that Bernanke would save his limited ammo for a weaker market/economic environment), Bernanke launched an open ended mortgage backed securities bond buying program for $40 billion a month "until employment begins to show recovery." That key statement is what this entire program hinges on. The focus of the Fed has now shifted away from a concern on inflation to an all out war on employment and ultimately the economy. However, will buying mortgage backed bonds promote real employment, and ultimately economic, growth. Furthermore, will this program continue to support the nascent housing recovery? Clearly, the Fed's actions, and statement, signify that the economy is substantially weaker than previously thought. While Bernanke's latest program of bond buying was done under the guise of providing an additional support to the "recovery," the question now is becoming whether he has any ammo left to offset the next recession when it comes.
The implications of this are severe. However, the first question we have to ask is, “why now?”
And Unemployment and Inequality Are Worse Than During the Recession
Bernanke took the plunge yesterday by embarking on QE3 or what would be better described as “Currency Debasement 3”. Improving the U.S. job market and therefore economy was the reason given for the extremely radical measures. However, the scale of the open ended monetary commitments suggests the Fed is worried about another Great Depression and an economic collapse. The move was described as "stunningly bold" by some analysts as it is "open ended" with Bernanke pledging to print or electronically create, with no time limit, an extra $40 billion every single month until the labour market improves. This is the frightening vista we have been warning of for some time. It means that should the US economy enter a recession and or depression, which still seems very likely, that the Fed will continue printing money and debasing the dollar thereby leading to dollar devaluation and inflation - potentially virulent inflation on a par with or worse than that seen in the 1970's. We had long said that QE3 was inevitable - the question was when rather than if. Indeed, we had said that given Bernanke's closeness to Wall Street we expected that QE4, QE5 etc. were likely. The "open ended" nature of this new round of QE as enunciated yesterday means that the Fed could if it wished or believes it is necessary print unlimited quantities of dollars.
The acquisition of CRBC by FMER provides a stark illustration of the fundamental conflict between the Fed’s “dual mandate” and its legal responsibility to supervise the nation’s banks.
The Fed panicked. It is extraordinary that the Fed would announce an open-ended "we'll print as much as it takes, as long as it takes" policy. Chairman Bernanke is sending a signal to the markets and to government that the economy is bad and getting worse and that the Fed will do its part as everyone expects them to do. This is a clear signal to the markets and the world that the Fed stands for monetary inflation. They don't know what else to do. Here is the fallout.
You could be forgiven for believing that the ECB's talk/plans have indeed solved the European problems. The market's reaction appears to confirm all anchoring bias and thanks to overly bearish positioning (and thin summer markets) has sent all but the long-term-est bears scurrying for their rabbit-holes - as once again 'tail-risk has been removed' - just like LTRO, the SGP, and The Grand Plan before it. However, as BofAML notes in this must read note, we do not believe the ECB move will necessarily lead to a permanent stable equilibrium for the euro area for two reasons: 1) a stable equilibrium would require certainty about the ability of countries to restore debt sustainability, i.e. that they will respect an agenda of economic policy reforms and/or; 2) certainty about the ECB course of action, i.e. that the ECB will purchase bonds in such a way that we will not observe renewed financial market stress as we did this summer. Such certainty would require both Spain and Italy to put their faith in the Troika’s hands and the ECB to pre-commit in return, which seems to us very unlikey at this time. The ECB’s conditional backstop is some way from the “bazooka” that many were expecting
The answer, of course, is yes: they are after all, economists (who somehow, with no real world experience, determine the daily fate of billions of productive and capital-allocation decisions every day). But it is one thing for everyone to discuss the obvious anecdotally by the water cooler. It is something else for this verbal heresy to be printed in a "serious" publication. Such as Reuters, which today asks if "the Federal Reserve has watched the U.S. recession and painfully slow recovery through rose-colored glasses?" And answers: "A look at the U.S. central bank's economic forecasts over the past five years suggest it has." It then explains: "Since October 2007, when the Fed's policy committee began giving quarterly predictions for GDP growth and the jobless rate, the central bank has downgraded its nearer-term forecasts almost two-and-a-half times as often as it upgraded them. The gap between Wall Street's expectations for 2012 growth and the Fed's own current view points to yet another downgrade on Thursday, when policymakers wrap up a two-day meeting that has world financial markets rapt." It concludes: "The trend of back-pedaling shows how poorly the central bank has fared at reading the economic tea leaves, with the Fed's optimism a likely factor in policy decisions through the Great Recession and its fallout, economists say." In summary: the world's most ebullient and permabullish forecasters, who incidentally happen to constantly be wrong in their desperate attempts to affect the only thing that matters: consumer and investor sentiment and confidence via the increasingly irrelevant myth that are asset prices, happen to run the monetary world and "determine" just what the future looks like. Needless to say, if the Fed's presidents were actually employed in the private sector, they would have been fired ages ago. Only in a fiat world do they not only keep their jobs, but keep on running the world.
Lakshman Achutan, ECRI (Economic Cycle Research Institute) made a recession call for the US on September 30, 2011 (and confirmed it multiple times since then). Gary Shilling, titling his August letter “Global Recession”, says “We are already in a global recession.” However, equity markets don’t think so, with the S&P 500 trading less than 10% away from a new all-time high. Only one side can be right. Could this be a repeat of October 2007, when the S&P 500 hit new all-time highs mere six weeks before the “Great Recession” began? Are so-called leading indicators, as used by the Conference Board, still reliable? Established leading indicators incorporate questionable input. While there is no perfect indicator, a combination of the ones tested here, weighed by accuracy, confidence and timeliness should produce a good reading. The higher-confidence indicators say that 2011 was a “close call”, but we are currently not in a recession. However, a lot of lower-confidence indicators are showing readings consistent with a severe recession.
Presented for your viewing pleasure are ten of the most prescient indicators of the resilience of the consumer and his largest asset (liability) since the 'supposed' end of the recession. We thought the subtle hint at which of these trends is not like the others would help; but, just in case you missed it, it's the part of the economy that is government-backed, subprime-funded, over-inventoried, and entirely channel-stuffed. Aside from all that, entirely sustainable, we are sure.
The middle won't disappear, but might wildly transform its appearance.
The Second Great Depression officially started in December 2007. The NBER tells us that the recession that started at the same time ended some time in the summer of 2009. The Second Great Depression continues. The chart below shows the cumulative increase in Americans receiving foodstamps and disability benefits since December 2007 on the positive Y-Axis, and the jobs lost on the negative Y-axis. No additional explanation is necessary.