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Guest Post: Why The Fed Likely Won't Taper (For Long)... Anytime Soon
Submitted by Lance Roberts of STA Wealth Management,
As the S&P 500 continues to push to one new high after the next, the bullish arguments of valuation have quietly given way to "it's all about the Fed." The biggest angst that weighs on professional, and retail investors alike, are not deteriorating economic strength, weak revenue growth or concerns over the next political drama - but rather when will the Fed pull its support from the financial markets.
Deutsche Bank's Peter Hooper, states that he isn't sure when the Federal Reserve will begin to taper its stimulative, $85 billion monthly purchases of Treasury and mortgage securities. He assigns equal odds for each month.
However, while Peter's arguments are just as good as any, I have a slightly different view.
First of all, I find it highly unlikely that the Fed will taper its purchases in December as the government once again begins to debate over raising the debt ceiling. As I stated in "The Real Reason For No Taper," following the surprise decision this past September:
"The problem the Federal Reserve currently faces is that they are once again facing an issue that nearly cratered the markets, and the economy, back in 2011. As we quickly approach the limit of the government's borrowing capability, the threat of a government shutdown and 'debt ceiling' debate once again looms. Bernanke is currently fearful of such a repeat event given an already weak economy coupled with rising interest rates. Any shutdown of the government, fear of "default" or restrictive fiscal policies could collapse what incremental recovery there has been to date.
Therefore, at least for now, the clearest path for the Federal Reserve was to risk the building of an asset bubble, which they feel that they can control the deflation of, versus an economic drag that pulls the economy back into a recession. Unfortunately, there is absolutely no historical evidence that the Fed can control the deflation of an asset bubble"
The bill that was signed this past October to end the government shutdown effectively gave control of the "debt ceiling" to the President. Therefore, it is unlikely that the upcoming debate in January will be nearly as exciting as the last. However, there is likely to be a fight over fiscal policy changes which could rattle the markets nonetheless. Therefore, the Federal Reserve is unlikely to reduce its accommodative monetary policies, with an already weak economic environment, ahead of an upcoming battle in Washington that could lead to potentially restrictive fiscal policy outcome.
Furthermore, it is very interesting to note that a wide variety of analysts and economists sincerely believe for a third year running, that economic growth will accelerate in coming months. However, there is no evidence of such an acceleration currently in the economic data. In fact, much of the economic data points to an economic environment that is actually decelerating. The ongoing effects of higher payroll taxes, and most importantly higher healthcare costs due to the onset of the Affordable Care Act, will continue to reduce the net disposable income of consumers which make up 2/3rds of economic growth. I discussed this recently in regards to retail sales stating:
"However, there is one dynamic that has yet to fall into most analysts radars - the impact of the Affordable Care Act. With the new revelation that as many as 14 million healthcare plans will be cancelled; the number of individuals having to pay more for healthcare is increasing.
What does this have to do with retail sales? Just about everything. The chart below compares the level of retail sales to personal incomes. See the correlation?
Those incomes are not rising. If we substract an additional $200-300 per month for the additional cost of governmental healthcare - where does the money come from?
The problem for the average American is that their income is very finite. According to a recent CNN Money survey roughly three-fourths of all American's are already living paycheck to paycheck. Of course, this should not be surprising with roughly 90% of the population earning less than $50,000 on average.
That increase in the cost of healthcare, combined with the increased taxes from the ACA itself, will have a negative impact on both retail sales and the more comprehensive personal consumption expenditures report which feeds directly into the GDP calculation."
So, why not March?
A March taper is also unlikely as the Federal Reserve will be dealing with two primary issues at that point. The first will be evaluating the impact of whatever deal was struck in Washington during the January/February debt ceiling-budget debate. Secondly, will be the upcoming transition of control at the Federal Reserve from Ben Bernanke to Janet Yellen. Considering that Yellen is potentially even more dovish that Bernanke in terms of monetary policy it is highly likely that the Fed will opt to leave current policy in place during the transition process.
On the economic front, it is unlikely that the labor market will have improved enough by March, or potentially worsened, to warrant reducing the current program. It is not lost on the Fed that the majority of the decline in the unemployment rate has been driven by declines in the "labor force" participation rate. Achieving a target of 6.5% unemployment would be a hollow victory, economically speaking, when a large percentage of the working age population is effectively not counted and living on welfare. (Currently 49.2% of all working age Americans are currently participating in some form of government assistance.)
Importantly, William Wascher and David Wilcox just recently released a new paper discussing evidence of the significant deterioration of the supply-side economic performance in the U.S. The implications are important as it points to continued "very slow" potential GDP growth and an increase in structural unemployment.
(Via ZeroHedge) "They estimate that real potential GDP growth has only averaged 1.3% since 2007, the output gap is currently about 3% of GDP, and the structural unemployment rate had risen to 5.75% by 2012 (although it is now again on a slight downward trend). They then use a modified version of FRB/US with an added role for "hysteresis" in labor markets--that is, a gradual transformation of cyclical unemployment into structural unemployment and/or labor force withdrawal --to analyze the sources of this deterioration, using a simulation in which the model economy is hit by a major financial crisis that is calibrated to match the size of the 2007-2009 episode. In a nutshell, they find that the post-crisis period 'features a noticeable deterioration in the economy's productive capacity' and that about 80% of the deterioration '…represents an endogenous response to the persistently weak state of aggregate demand.'"
Furthermore, falling levels of already low inflation rates suggest that the economy is slowing rather than expanding, housing is slowing as the run of speculation is ending with higher interest rates, and the markets have already shown a nasty response to "taper talk" previously.
Not Until The End Of 2014 - If Ever
As I discussed recently in "What Is A Liquidity Trap And Why Is Bernanke Caught In It?" the problem for the Federal Reserve is that when they attempt to reduce liquidity support from the markets, as they did in 2010 and 2011, it immediately results in a selloff in financial markets, a loss of consumer confidence and a downturn in economic growth. Even talk of "tapering" earlier this year had similar consequences.
Goldman Sachs had three very important takeaways:
"First, the studies suggest that some of the most senior Fed staffers see strong arguments for a significantly greater amount of monetary stimulus than implied by either a Taylor rule or the current 6.5%/2.5% threshold guidance.
Second, the studies provide two complementary reasons for why additional easing is warranted, and;
Third, the studies suggest that the most likely form of this additional easing would be a reduction in the 6.5% unemployment threshold."
While Goldman thinks that such an analysis implies a "taper" in March, alongside a reduction in the Fed's unemployment target to 6.0%, the reality is that it more likely infers that there will be the talk of more, rather than less, accommodative monetary policy particularly as Yellen takes control. This will particularly be the case if I am correct about the impact of the Affordable Care Act on the economy in the months ahead. (The full impact of ACA will not be felt until 2015 when the corporate mandate engages. This will cause a significant transference of costs to the individual without an offsetting increase in wages.)
"The lack of transmission of the current monetary interventions into the real economy has remained a conundrum for the Federal Reserve as the gap between improving economic statistics and the real underlying economic fabric continues to widen. As Larry states, we are indeed in uncharted territory. With the direct manipulation of interest rates near impossible, it leaves only verbal (forward guidance) and liquidity (increases of excess reserves) policy tools available. The problem is that these tools have never been used to such a massive extent before in history. While analysts and economist continue to suggest, with each passing year, that stronger economic growth is coming; it has yet to be the case. As discussed previously, this is a tell-tale sign of a liquidity trap.
My belief all along has been and remains that a well thought out combination of both fiscal and monetary policy is the correct remedy for what ails the U.S. economy currently. However, up to this point, the Fed has been the 'only game in town' to quote the famous words of Senator Chuck Schumer. I have to admit that I was pleasantly surprised by Larry Summers view point as I believe that it is the correct one at this late stage of the current economic recovery cycle."
For the Federal Reserve, they are now caught in the same "liquidity trap" that has been the history of Japan for the last three decades. With an aging demographic, which will continue to strain the financial system, increasing levels of indebtedness, and poor fiscal policy to combat the issues restraining economic growth, it is unlikely that continued monetary interventions will do anything other than simply foster the next boom/bust cycle in financial assets.
Should we have an expectation that the same monetary policies employed by Japan will have a different outcome in the U.S? More importantly, this is no longer a domestic question - but rather a global one since every major central bank is now engaged in a coordinated infusion of liquidity. The problem is that despite the inflation of asset prices, and suppression of interest rates, on a global scale there is scant evidence that the massive infusions are doing anything other that fueling the next asset bubbles in real estate and financial markets. The Federal Reserve is currently betting on a "one trick pony" that by increasing the "wealth effect" it will ultimately lead to a return of consumer confidence and a fostering of economic growth? Currently, there is little real evidence of success.
Will the Federal Reserve "taper" in December or March - it's possible. However, the revulsion by the markets, combined with the deterioration of economic growth, will likely lead to a quick reversal of any such a decision.
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Three years late and a trillion short. ZH commenters have been saying the same thing since Berstanky printed the first QE dollar.
No kidding. The PR campaign by the FED using idiotic words like Exit Strategy and Taper flies directly opposite to their actions.
The FED will increase QE in the future, guaranteed.
Although, if Bernocchio wants to prove me wrong and make me look like a complete fool, then please mr. phd, taper.
But you won't because you can't. Case closed. FED full of BS.
Look at how far we have come. Is this still the capitalism that we preach to others - have the central bank boost the stock market for ever. How can the politicians talk about Free Markets with a straight face anymore. Of course they are a shameless bunch, anyway.
They can't taper because the enslaved poor can't borrow.
First the icey cold water fills up steerage then it rises to drown them all.
'Taper' is the talking point excuse used to create distance while they naked short the gold and silver markets.
'The FED will increase QE in the future, guaranteed.'
Si senor. There is NO WAY the Fed will back off of printing money. Not ever. Not until they eventually kill the dollar.
Will the Fed stop printing and let the politicians hang themselves on deflation? Or give up their most favored method of wealth transfer?
Are you kidding?
They will print and prop up the stock market AT ALL COSTS. I had to laugh the first time the word 'taper' became a media buzzword. I'm betting the person who pushed 'game changer' thought this one up too.
I think they stop printing when, not if, a pension fund blows up.
You can keep a brain dead patient alive a long time on life support.
Doesn't mean that patient is going to rise up-ever.
Just means he is not officially dead.
And the beat goes on.
Re: ZH commenters have been saying the same thing since Berstanky printed the first QE dollar.
Most of us have economic OCD. It's a curse.
where does a few hundred billion in extra deficits for govt due to health care fit in--
If you like your deficit, you can keep it. period
HEY BERKY, OLE YELLEN, OBOZO Et Al.... DOUBLE FUCK YOU !!!!
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They will taper if the Tea Party starts looking good in the polls come next year. That may be improbable but each party is as much a bunch of ass clowns as the next so anything can happen with ACA, budget talks, wars, etc.
As soon as they begin to taper, the numbers would show we are in a recession.
As soon as that happens, there will be screams to do something.
What needs to occur is a recession to wash out the excesses. But we do not let that happen.
And so we wait....
Last time I checked, junkies do not live too long.
The best thing is for no Taper....increase QE and let the patient overdose.
The Fed cannot print cheap/free energy. They can print/fund warfare, but eventually even wars for resources will run out of steam. The next round of demagoguery will be the justifications for getting our oil away from those haters at any cost.
Right on Grande Tetons
The fed will not taper in December, March, or ever. The fed will be increasing QE even moar until one of two things happen. Either the world says no more and starts dumping the FRN enmasse, or the fed owns everything.
The Fed can't Taper because "Keynesians" would then have to admit their god has died.
Let us pray:
We must borrow more money,
To stimulate demand,
So that jobs are created,
And prosperity ensues,
Then we pay off our loans (unless we don't have properity or enough jobs in which case keep praying).
Forever and ever, in his holy bearded name, Amen.
These guys could keep it simple and just admit reality - the FED can never taper because the only reason anybody else buys ANY bonds is because they FED will always buy them back at a better price. Pull the FED backstop and
- rates go up
- FED balance sheet goes completely to shit
- Government interest expense goes through the roof
- FED is forced into BLATANT (because apparently the market doesn't find what they're doing now blatant enough) monetization to cover rising interest expense
And yet everybody agrees to play the 'will they or won't they' game, as if somehow they're making these decisions based on 'what's best for the economy and the American consumer' (since the concept of citizenship, with it's implication of responsible participation in the affairs of the country is no longer applicable)
Al,
I see your point about the FED "balance sheet" but in REAL terms they can suffer no losses as their REAL cost basis was zero to buy all those bonds. So, who REALLY bought those bonds?
Yes, I know - they don't really suffer from the balance sheet hit, it just looks bad and makes the whole Potemkin village they're trying to maintain less credible to those who aren't quite in the mainstream but still buy the 'FED has a mandate' story. It's the interest expense and forced, visible, blatant monetization of interest expense that will eventually bring the whole scheme down.
The smaller and weaker (cities, states, countries) that can not print will suffer first and bankrupt first (Detroit, Fresno, Greece, Cyprus, ...)
Once bankruptcies are on the mind of investors then interest rates will rise to 'real' levels and then the real economic situation will become apparent.
Its all bread and circuses until real interest rates are obvious.
/waiting
The Fed is probably more concerned about deflation than inflation at this point in time. I think the FOMC is more likely to increase QE as opposed to taper anytime soon. They just need to talk like they could taper at anytime to keep people honest and to stop specualtors from taking excessive risks, but there is no way they taper this year.
Taper on, Taper off, whatever - Im getting worn out by this lame debate.
According to Macquarie Research:
https://app.box.com/s/j0desfvkuqh6bitsvhuz
Could the Fed flip flop?
“Enlargement” could become the new “tapering”
- Our view that tapering will commence in March 2014 has become the consensus and continues to be our base case (50% chance). We place a lower probability (15%) on an earlier taper (Dec/Jan) and a higher probability (25%) it occurs later (April to Sept). While incremental delays could impact near-term asset class performance these would only provide temporary respite from longer-term trends established when expectations for tapering began in early 2013.
- One outcome (to which we assign our final 10% probability) that would result in a more dramatic shift would be a 180 degree turn or flip flop in Fed communication that caused investor anticipation to move from “taper” to “enlargement”. The potential for such a shift is barely being acknowledged (no less considered!), by consensus. This is all the more reason to give it attention in our view. Such a flip flop would have important implications for asset market returns. In particular, it would likely lead to outperformance from emerging market equities and precious metals. Treasury bonds would also benefit.
The Fed would need to doubt the recovery’s sustainability
- Incoming data are an obvious catalyst for a Fed flip flop. The labour market has softened recently (Fig 8, 9), housing momentum has slowed (Fig 10, 11) and inflation is well below target (Fig 12, 13). Despite downgrades in its forecasts (Fig 14), the FOMC remains above consensus (Fig 15). While this evidence may be enough to delay tapering, modest downgrades or data misses likely won’t be enough to change the Fed’s tapering narrative.
- In our view, for such a flip flop to take place, members must become more pessimistic about the recovery’s sustainability. What might cause this? The combination of continued soft data alongside greater than expected fiscal tightening in 2014 is one possibility. It was the worry about the impact from the fiscal cliff, after all, that contributed to the QE3 launch decision in 2013.
And the Tea Party could provide the catalyst
- Consensus expects the Tea Party and other Republicans to take a less hardline approach towards negotiations in 1Q14 after they were punished in public opinion polls as a result of the shutdown. Such a near-term detente in Washington will only become likely should President Obama make concessions. Should this occur, the President may be more willing to sacrifice on near-term spending rather than changes to Obamacare (his legacy) or long-term entitlement programs (resistance from his own party) (see pgs 3 to 5).
- The magnitude required to impact the 2014 growth outlook is not high. Annual spending cuts offsetting just one-third of the long-term debt impact from Obamacare would act as an incremental ~0.4% headwind to growth in 2014 (combined with sequestration already embedded in current law, this would mean fiscal drag of ~0.5 to 1.0% for much of the year) (Fig 7).
The FED is not going to taper. No but they'll use the idea to ramp the markets.
Why don't they just come out and say that if the worldwide uprising against globalists doesn't stop there'll be martial law in the streets. So we are going to have to ramp the markets to pay for the alphebet soup agencies to fight off the citizens of the United States of America and Europe.
All this taper talk is simply FUD generated by Goldman, Morgan, etc. to allow them to load up on long bonds while everyone else is worried that rates are going to rise.
Yellen has stated that she would rather have inflation above target rather than have unemployment above target. Inflation is running below target and unemployment is way above target. Once installed, she is going to expand QE and buy every long bond that isn't nailed down. Generating tidy profits for the aforementioned Goldman, Morgan, etc.
Add in the economic millstone of Obozocare on all middle class whether they sign up for ACA or have indivicual policies or, in 2015, have employer policies (which is just about everyone) and folks lose the equivalent of a car payment each month.
Its pathetic.
Nobody cares about economic performance (employment, jobs, etc.), because everybody knows none of it is any good, or, at least insufficient to justify all time highs in the SnP. Which really is another way of saying that since it is the FED and ONLY the FED that anybody is paying any attention to, means that the entire market is a sham - like elections now - which means if you are going to fuck around in this sandbox, recognize it for what it really is - invest accordingly. So then, when you continue to hear from pundits and politicians about "taper timing", what we should all be saying, and at the same time, is "fuck off with you're bullshit prognostications as if they were market based analyses - as the person spouting them, they are useless, because there is no "market" to even confirm or disprove what you are saying."
Its a retarded exercise - futile - and its absurd that anybody even pays attention to it, or worse, pays money to see or hear you say it.
"Its a big club, and 99% of us aint fucking in it."
End of story.
QE is Permanent; it's forever, unless there's a war; then you have to buy into it, and live with it because it's your patriotic (idiotic) duty. There is a better way. I recommend Liberty www.electanewcongress.com Serfs Up America!
I believe the supposed reaction of the markets to the beginning of taper has been overstated. We should keep in mind that the taper is NOT a tightening measure, but rather a reduction of rapid loosening. No doubt there will be a lot of weeping and gnashing of teeth on the part of those who have used QE 3 to inflate the stock market, obtain ultra-low interest bank loans and padded their own bonus accounts. But the rest of us will pay no attention and life will go on - perhaps with slightly higher interest rates. The FED can ameliorate the effect of the taper by discontinuing its program of paying interest on excess reserves, thereby reducing its liabilities concurrently with the expected decrease in the expansion of its assets.
Woodford claims there is a zero lower bound. However in the absence of a quantity theory of money or time value of money, technically speaking you can keep splitting the difference and still never reach the bound. If so, then it's not a "bound", but rather a fractal denominator equivalent to the Coastline Paradox ever-increasing in size.
The Fed has moved from a time-based model to a distance-from-the-threshold model while still referring to both as "how long?" As if length as measured in time and length as measured in distance were comparable. You can simply keep splitting the difference while infinitely expanding the supply and never reach the threshold.
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