Bubble, Bubble, Toil, And Monetary Policy Trouble

Tyler Durden's picture

Via Scotiabank's Guy Haselmann,

In my note from Tuesday entitled “Treacherous Market Conditions,” I attempted to outline the precarious position the FOMC has put itself in.  I mentioned that the Fed’s depleted ammunition applies greater pressure on its attempts to ensure a strong recovery.   Yet, I hinted that the Fed is in a race against time, because risks to financial stability aggregate with each passing day, while economic benefits approach zero.   Despite differences as to the extent and degree of financial risks, FOMC members have (finally) become aware that they have arisen.

As such, the FOMC, despite their desperation to err on the side of over-accommodation to ensure success, their concerns about financial stability prevailed and were a key reason why the Fed began exiting from QE in January.   Supporting this belief is the lunch conversation during Bernanke’s recent visit with key people of a high profile firm.   In the summary notes sent to clients, the firm reported that Bernanke complimented Stein’s work (on the risks to financial stability), and admitted that “the Fed’s decision to start to taper had a significant financial stability component to it”.

The FOMC has repeatedly admitted that their tools available to fix economic ailments are limited and that these tools can only target those ailments indirectly.  This is why it has always been a leap of faith to believe that increasing the wealth effect (via boosting asset prices) would improve consumption enough to afford the Fed progress on its dual mandates without causing adverse financial market conditions.   Common sense tells me that using such massive indirect experimental tools was destined to cause bubble conditions and many unintended consequences.

Draghi seems to share concerns about bubble conditions.  In referring to what makes the ECB’s new TLTRO plan different, Draghi uttered today,”...the determination that this money not be spent for sovereigns on sovereigns and on sectors that are already experiencing or have just come out of a kind of bubblish situation”

On the website of the Bank for International Settlements it states that, “The mission of the Bank for International Settlements (BIS) is to serve central banks in their pursuit of monetary and financial stability, to foster international cooperation in those areas, and to act as a bank for central banks.”  The BIS might have concerns that it is failing to perform its mission.

Here are a few excerpts from some of its publications:

“A persistently aggressive monetary policy risks exacerbating collateral damage, both domestically and internationally, as unwelcome spillovers foster the build-up of disruptive financial imbalances in other countries whenever financial cycles are out of sync. And as results disappoint, such a policy can ultimately sap the central banks’ credibility, effectiveness and public support. More generally, there is a serious risk of exhausting the policy room for maneuver over time. As policymakers respond asymmetrically over successive business and financial cycles, hardly tightening or even easing during booms and easing aggressively and persistently during busts, they run out of ammunition and entrench instability.”


The major asymmetry in the global monetary and financial system that worsens the picture is that easy monetary conditions in major economies spread to the rest of the world. As a result, the system has produced inappropriately low interest rates for the world as a whole. Non-crisis-hit countries find it hard to operate with interest rates that are significantly higher than those in the large crisis-hit jurisdictions because of the fear of exchange rate overshooting, even when the economy has been growing strongly. In several cases, this has been fuelling unsustainable financial booms (“financial imbalances”). The result is expansionary in the short run but contractionary over the longer term.”


In economies still recovering from balance sheet recessions, reacting ever more aggressively with monetary and fiscal policy will not resolve the problem. After a certain point, it may even be counterproductive (e.g., depletion of policy ammunition, development of new imbalances).


Negative real interest rates, especially when associated with zero policy rates, are not equilibrium phenomena. As a result, they risk causing collateral damage, not only in the crisis-hit countries themselves, where they may further delay balance sheet adjustment or encourage unhealthy forms of risk-taking, but also, and more visibly, elsewhere in the world, by causing a build-up of financial imbalances. This, in turn, could end up validating those low interest rates, as the unwinding of the imbalances could make normalisation extraordinarily difficult globally.”

I maintain my bullish bond view.  Buy long-dated Treasuries. I predict the year’s low in 10’s and 30’s of 2.44% and 3.29% will be surpassed within the next 2 months.
“In the complete separation of government from the bank and credit system consists the chief hope of renovating our prosperity, and restoring to the people those equal rights, which have so long been exposed to the grossest violations. Leave credit to its own laws.” – William Leggett (1837)

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SoberOne's picture

Concerns about bubbles yet cuts rates and enables nirp.  Yeah,  ok.

NidStyles's picture

They have to pop the bubble to see that it's there...

Staplegun's picture

"We have to pop the bubble to find out what's in it." 

duo's picture

I turned on CNBC for the first time in 3 months and in 30 seconds I was sick.  "Zero interest rates will be around forever.  People shouldn't be afraid of stocks.  If you want to retire in ZIRP you need a million dollars".  No mention of the risk of BTFATH.

Staplegun's picture

Retire? In 20 years, retiring will probably be a crime agaisnt the state. Gotta keep working. Its for the children. 

Vampyroteuthis infernalis's picture

Its for the children. 

Not many children around these days. It is for the oligarchs. Lucky us!

huggy_in_london's picture

I turned it on for the first time in probably 6 months and there was some woman showing houses for sale!!  WTF??  Are they so desperate now that they are resorting to pimping houses?  Fukers

Goldilocks's picture

Double, Double, Toil and Trouble: Wicked Witch Agatha Cast an Air Spell
http://www.youtube.com/watch?v=wTdZORMQVrU (0:57)

whatsinaname's picture

Money for nothing and Bubbles for Free....

NoDebt's picture

When are these central bankers going to stop being such wet blankets?  The pool has finally reached the perfect temperature (just below boiling) and everyone who's anyone is in for a swim.  C'mon, guys, you warmed up the pool, hop in and enjoy it!  You guys never take time for yourselves.  Here's some 3x leveraged Russell 2000 ETFs and some junior miners for you.  Now, come on in and enjoy, would ya?



deeply indebted's picture

I would recommend against getting in the pool. That heat you're feeling is piss.

Da Yooper's picture

Anddddddd they are telling us it is raining

Bastiat's picture

Junior miners?  You're hardly pimpling a top there.

Chuck Knoblauch's picture

The stench from Yellen's bench is making me clench.

pods's picture

Too many big words.  

If too many big words are being floated out talking about finance, they are full of shit or trying to sound smart enough to get into the club.

Finance:  An orgy or well heeled speculators and bankers having their way with the poor folks who are trying to keep inflation from eating their seed corn.

We should line up all those in the first two groups for a quiz:

Lay their neck in the guillotine and ask them where "money" today comes from that banks lend.  Those who answer correctly get beaten to death, those who think there is a big pool of deposits in the back that the bank lends out get the blade.


limacon's picture

All bubbles smell sweet if you are above the water .

Wait What's picture

"we don't encourage or enable bubbles" said no central banker ever.

deeply indebted's picture

Why describe a liquidity trap, but not use the term "liquidity trap?" The sheeple are never going to get it until we start talking straight.

Repeat after me: "LIQUIDITY TRAP"

NidStyles's picture

BS term ;-) Even the bankers know that.

CaptainSpaulding's picture

Translation. .... i's be dead

shermacman's picture

"If you like your bubble, you can keep your bubble!"

Goldilocks's picture

The Cat in the Hat- Mrs Kwan- Part 2
http://www.youtube.com/watch?v=t3n7x_FUrvE (0:39)

Chief Wonder Bread's picture

LOL, ScotiaBank. There's a superstition among stage folk about quoting lines from 'the Scottish play' before a performance... ESPECIALLY the 'bubble, bubble...' witches scene. wtf, I'm wasted on box wine.

I like his prediction about Treasury rates, since I have some skin in the game (altho it does scare me, not that I'm superstitious or anything) <;)

AdvancingTime's picture

 Janet Yellen has been head of the Federal Reserve bank long enough that we no longer need to speculate as to her job performance. As we begin to critique her ability to perform we must remember perception is often just as important as reality. Another issue that comes into play is how you stack up or compare to the person who held the position previously, this often extends to style as much as it does to substance.

As expected it appears Janet Yellen has chosen to take us down the same the rabbit hole as Bernanke on a journey to prove that if we just continue doing what is not working, all will turn out fine. Caution, this path leads down, and down, and down, farther and deeper then most can ever imagine. If asked to critique "Old Yellar" now playing in theaters everywhere I would by way of the reasoning above have to give her the maximum two solid thumbs down. More on this subject in the article below.