An Alternative View Of Why The Fed Did Not (and Will Not) Taper
A few years back Chairman Bernanke was asked by a financial reporter how confident he was that the Fed could easily start the process of withdrawing from the accommodation of “unorthodox” monetary policy. Some might argue (ourselves included) that the answer 'should' be something like “very confident” or “We feel we have the right tools and the right people to manage that process”. Instead the answer given was “100%”. At last week's press conference, Chairman Bernanke, in CitiFX Technicals' view, looked like the “cat that got the cheese", despite the more downbeat message he was giving? Why? Because he got his way. In their “conspiracy theory” interpretation it is likely that Janet Yellen’s nomination will indeed be announced in the near future and that tapering is now firmly back off the table despite the guidance given in recent months to the contrary. Bonds seem to agree (so far).
Via CitiFX Technicals,
A few years back Chairman Bernanke was asked by a financial reporter how confident he was that the Fed could easily start the process of withdrawing from the accommodation of “unorthodox” monetary policy. Some might argue (ourselves included) that the answer should be something like “very confident” or “We feel we have the right tools and the right people to manage that process”. Instead the answer given was “100%”. If there is one thing you should never commit to when looking towards the future in financial markets is that anything is 100%.
Fast forward to early this year and two things took place
- Bernanke indicated that he would not be looking to be reappointed
- Yellen was touted as the most likely successor
So, if we were a fly on the wall we can imagine the thought process as: The economy looks in pretty good shape. Ben is leaving. Janet will likely take over. QE was “Ben’s baby”. Ben said it would be easy to withdraw. Good time to “Fly a kite”. Let’s tell the market that we may withdraw some of this “QE infinity” but articulate strongly that this is an “easing of the easing” not a tightening.
So out goes this guidance from a man (Bernanke) that in our view looked extremely uncomfortable in delivering that message. In subsequent comments thereafter he continued (in our view) to look like somebody that was delivering a message that he did not believe in. Can that be surprising when we know that he has constantly argued that he believed that “too early” withdrawal of accommodation was what exacerbated the great depression and Japan’s lost decade (Or should we say decades). However, he was leaving and looked like he was persuaded to “fly this kite” in order to pave the way for his successor and provide a good information feedback loop in that respect.
So what happened? Yields spiked aggressively along all parts of the yield curve much to the surprise of the Fed board. The market obviously did not get the message that this was not a tightening. Shortly thereafter guidance was pushed into the market (Via “preferred sources”) reiterating that the market was getting this wrong. This was an “easing of the easing” and the Fed was sticking to its view that short-term rates would stay low “as far as the eye could see.” Things calmed for a little while only to come back with a vengeance towards the middle of June. Emerging markets around the World started to exhibit stress and long term yields everywhere started to rise. The Fed continued to stick with the same message in this period (Probably a preferred route than flip flopping as they did with the “end” of QE1; QE2 and operation twist)
Then the issue became a bit more complicated. Out of nowhere, the front runner for the Fed Chairman position became Larry Summers (A man quoted as “doubting the efficacy of QE”). Yields were still pushing higher and anecdotal evidence suggested that the higher yields were having a negative feedback loop in particular in the mortgage market as well as some other data which began to slow (NFP; Consumer confidence etc.) Now you have a problem. You flew the kite. It “crashed and burned”. Now would be the time to back away and say (As with QE1; QE2 and operation twist) that the Fed was not ready. However, how do you do that if a few months later you look likely to have a “QE sceptic” heading the Fed? Difficult, if not impossible. You flip then flop only to possibly having to flip again in early 2014.
Time to use the “sources” again. Guide the number lower from thoughts of $20-25 billion to say $10-15 billion. Possibly restrict tapering to treasuries. Lower the 6.5% unemployment guidance on moving the Fed funds rate etc etc. That looks the best you can do given the corner you have backed yourself into
Then, a game changer. During the blackout period on the weekend before the Fed meeting Larry Summers withdraws his candidacy and Tim Geithner reiterates that he is not interested in being considered. Sources are no good at this late stage as we are in the “radio silence” of a blackout period.
In addition, on the morning before the Fed decision we get a Washington post article saying that Janet Yellen is the firm frontrunner and may well be announced as early as the following week. (If this was true and we do not know yet for sure that it is, what odds that Ben and Janet knew this going into the meeting?)
Then we get the shock announcement... No tapering, 2nd only to the shock press conference when Bernanke pretty much said that
- Tapering before year end was not a done deal.
- Ending tapering by mid-2014 was not a done deal.
- The 7% unemployment guidance for ending tapering was a flawed measure
- The 6.5% guidance for adjusting the fed funds was a flawed measure
- Projecting views as far forward as 2016 was a flawed process
- Targeting an inflation floor did not sound like a bad idea. (This when core PCE, which has a lifetime range since 1960 (53 years) of 0 .95% to 10.23% stands at 1.20%)
- Conceded that monetary conditions had tightened despite their attempted rhetoric that this policy was just an “easing of the easing”
In addition, as far as we were concerned, Chairman Bernanke, at this press conference looked like the “cat that got the cheese” despite the more downbeat Message he was giving? Why? Because he got his way.
- Once again an attempt to end QE had failed
- His “right hand (Wo)man was now taking control of the Fed
- The doves had once again taken firm control
- Policy “Hotel California” (You can check out any time you like (Ben) but you can never leave (QE) was firmly in place)
IF we are correct in this “conspiracy theory” interpretation it is likely that Janet Yellen’s nomination will indeed be announced in the near future and that tapering is now firmly back off the table despite the guidance given in recent months to the contrary
As always time will tell.
Of course, since the un-Taper, we have seen bond yields collapse and keep falling, gold prices surge and hold gains but stocks (which spiked) fall back having lost all the un-Taper gains.
It would appear that stocks have realized that while the free money may flow, growth is elusive and QE has been shown to be anything but stimulative in the real economy. Bonds have had their bluff called and are now pressing back down knowing that either the Fed bid or low-growth bid will be there; and gold recognizes that even if QE is tapered, the reaction in markets will prompt an un-taper very rapidly (and as Marc Faber recently warned - a potential rise to $150 bn per month by the end of next year).
However - as we noted before - they will need to pay attention as these 4 factors will require some discipline at some point:
1. Deficits are shrinking and the Fed has less and less room for its buying
2. Under the surface, various non-mainstream technicalities are breaking in the markets due to the size of the Fed's position (repo markets, bond specialness, and fail-to-delivers among them).
3. Sentiment is critical; if the public starts to believe (as Kyle Bass warned) that the central bank is monetizing the government's debt (which it clearly is), then the game accelerates away from them very quickly - and we suspect they fear we are close to that tipping point
4. The rest of the world is not happy. As Canada just noted, the US monetary policy will be discussed at the G-20
Simply put, they are cornered...
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