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Systemic Fragility & The Fed's "Hobson's Choice"
Submitted by Doug Noland via The Credit Bubble Bulletin,
More than two months have passed since the August “flash crash.” Fragilities illuminated during that bout of market turmoil still reverberate. Sure, global markets have rallied back strongly. Bullish news, analysis and sentiment have followed suit, as they do. The poor bears have again been bullied into submission, as the punchy bulls have somehow become further emboldened. The optimists are even more deeply convinced of U.S., Chinese and global resilience (the 2008 crisis “100-year flood” view). Fears of China, EM and global tumult were way overblown, they now contend. As anticipated, global officials remain in full control. All is rosy again, except for the fact that global central bankers behave as if they’re utterly terrified of something.
The way I see it, underlying system fragility has become so acute that central bankers are convinced that they must now forcefully (“shock and awe,” “beat expectations,” etc.) react to any fledgling market “risk off” dynamic. Risk aversion and de-leveraging must not gather momentum. If fragilities are not thwarted early, they could easily unfold into something difficult to control. Such an outcome would risk a break in market confidence that central banks have everything well under control – faith that is now fully embedded in the pricing and structure for tens of Trillions of securities and hundreds of Trillions of associated derivatives – everywhere. With options at this point limited, the so-called “risk management” approach dictates that central banks err on the side of using their limited armaments forcibly and preemptively.
With today’s extraordinary global backdrop in mind, I’m this week noting a few definitions of “Hobson’s Choice”:
“An apparently free choice that actually offers no alternative.” (The American Heritage Dictionary of Idioms)
“A situation in which it seems that you can choose between different things or actions, but there is really only one thing that you can take or do.” (Cambridge Idioms Dictionary)
“No choice at all, take it or leave it.” (Endangered Phrases by Steven D. Price)
There are subtleties in these definitions, just as there are subtleties in financial Bubbles. Importantly, over time Bubbles embody a degree of risk where they stealthily begin to dictate ongoing monetary accommodation. These days, global market Bubbles have reached the point where their message to central bankers is direct and unmistakable: “No choice at all, take it or leave it.” “Keep expanding monetary stimulus or it all comes crashing down – and that’s you Yellen, Draghi, Kuroda, PBOC – all of you…”
As Ben Bernanke’s book tour lingers on, there are comments to add to the debate. From an interview with the Financial Times’ Martin Wolf:
Wolf: “… We have to recognise that neither he nor the Fed expected the meltdown. Does the blame for these mistakes lie in pre-crisis monetary policy, particularly the targeting of inflation, with which he is closely associated? Had interest rates not been kept too low for too long in the early 2000s?”
Bernanke: “The first part of a response is to ask whether monetary policy was, in fact, a major contributor to the housing bubble and all that happened. Serious studies that look at it don’t find that to be the case. People such as Bob Shiller [a Nobel laureate currently serving as a Sterling professor of economics at Yale University], who has a lot of credibility on this topic, says that: it wasn’t monetary policy at all; it came from a mania, a psychological phenomenon, that took off from the tech boom and moved into housing.”
Mortgage Credit almost doubled in six years. Home prices inflated dramatically throughout much of the country, with prices about doubling in key markets (i.e. California). Egregious lending excess was conspicuous. Speculative excesses throughout ABS, MBS, GSE debt securities and mortgage-related derivates (i.e. CDOs) were only slightly less conspicuous.
Why did the Fed fail to impose some monetary restraint (recall that Fed funds remained below 2% for several years of double-digit annual mortgage Credit growth)? Because they had (once again) badly missed their timing. A Bernanke-inspired policy course was determined to see reflationary measures gain robust momentum. The Fed believed that the benefits of prolonging aggressive accommodation greatly outweighed minimal risks (CPI and inflation expectations were contained!). Meanwhile, mortgage finance Bubble excess reached a scale where the Fed would not risk the un-reflationary consequences of piercing the Bubble. Financial and economic vulnerability were too acute for our central bank to take such institutional risk.
Then, one might ask, why exactly had the Fed been so unwilling earlier in the cycle to restrain obviously overheating mortgage and housing marketplaces? This is a critical yet somehow completely neglected issue. Well, it’s because the Federal Reserve had specifically targeted mortgage Credit growth and housing inflation as the reflationary drivers for the post-technology Bubble recovery. Though apparently lost in history, manipulating mortgage Credit and housing markets were the primary (Bernanke’s “helicopter money”) mechanism for the Fed’s war against deflation risk.
The Bubble was of the Fed’s making, and our central bank lost control. It became a Hobson’s Choice issue in the eyes of the Fed, and they fully accommodated the Bubble. Historical revisionism seeks to portray Bernanke as the hero that saved the world.
These days, the Fed and global central bankers face a similar yet much more precarious Bubble Dynamic: The Fed specifically targeted higher securities market prices as its prevailing post-mortgage finance Bubble (“helicopter money”) reflationary mechanism. This ensured that the Fed would again be unwilling to impose any monetary restraint before it would then become too risky to remove accommodation (Einstein’s definition of insanity?). In concert, global central bankers now aggressively accommodate financial Bubbles.
Global markets have the Yellen Fed petrified of even a little 25 bps baby-step nudge up from zero rates. Despite booming bond market Bubbles, a huge rise in stock prices, generally loose financial conditions and expanding economic recovery, the Draghi ECB Thursday signaled additional monetary stimulus would be forthcoming (above the current $60bn monthly QE and near-zero rates). Global markets were overjoyed. In the face of much trumpeted financial and economic stabilization, booming corporate debt markets and significant ongoing Credit growth, Chinese officials moved Friday to again cut lending rates and reserve ratios. Markets were more overjoyed.
The halcyon days have returned. Powered by strong earnings from heavyweights Amazon, Microsoft and Google, the Nasdaq 100 (NDX) surged 4.2% this week. The NDX has now rallied 22% off August lows to within about a percent of all-time highs. The S&P500 gained 2.1% this week, closing just a couple percent below record highs. Bloomberg headline: “Junk Bond ETFs Break Monthly Flow Record With a Week to Spare.” And to be clear, that’s an inflow record.
Friday morning from Bloomberg: “$100 Billion Rally Coming in Google, Microsoft, Amazon Shares.” Tech Bubble 2.0 is raging, fueled by the loosest financial conditions imaginable – spurred along by speculative market dynamics and a global industry arms race arguably on a much grander scale than that of the late-nineties. Friday evening from the New York Times: “America’s Heartland Feels a Chill From Collapsing Commodity Prices.” The impact from the faltering global Bubble is spreading. Fed Bubble accommodation ensured incredible wealth has been freely lavished upon Silicon Valley, exacerbating the issue of “the haves and have nots” locally, regionally, nationally and internationally.
It’s certainly worth noting that market strength continues to narrow. The broader market this week badly lagged tech – especially big tech. In a financial management world desperate for relative performance, Fed-induced market rallies compel market participants to jump aboard the big outperformers. It’s exciting – dangerous late-cycle financial market dynamics.
There is as well a powerful real economy dynamic at work. For the most part, the bull vs. bear argument has the economy either rather robust or on the cusp of recession. Most importantly, the U.S. economy is badly imbalanced. Segments and sectors are absolutely booming. Monetary policy is recklessly loose, with cheap liquidity apparently to fuel excess until Bubbles have finally run their course. Meanwhile, vast swaths of the economy suffer from structural stagnation, the aftermath of previous boom/bust episodes. Here, monetary accommodation has little impact. And this stagnation plays a major role in seemingly benign aggregate consumer inflation and economic output data.
Yet when it comes monetary stimulus fueling Bubbles and exacerbating structural imbalances, the U.S. is overshadowed by China. Spurred by a surge in state-directed bank lending, total Credit (“total social financing”) jumped back over $200bn in September. There are also indications that post-stock market Bubble reflationary measures have pushed China’s corporate debt Bubble to only more precarious excess. While many contend that the Chinese economy, markets and currency have stabilized, I see it much more in terms of ongoing unsustainable Credit excess.
Chinese officials missed their timing for reining in Bubble excess by years. It’s now a Hobson’s Choice of throwing everything at the faltering boom. Brief thoughts: The Chinese will need a couple Trillion (in U.S. dollars) of new Credit over the next year, then the year after and so on. Throwing enormous amounts of new Credit at a terribly maladjusted system will ensure epic maladjustment and a Credit Time Bomb. Normally, such dynamics ensure significant currency debasement. I would think in terms of a Credit and Currency Peg Time Bomb.
October 18 – Financial Times (Gabriel Wildau): “It seems a long time ago that China was piling up foreign exchange reserves at a record pace as economists fretted about global imbalances from Beijing gobbling up US Treasury bonds. Now investors are wondering how long China’s dwindling forex reserves — down to $3.5tn from a peak of $4tn in June 2014 — can hold out. Capital is flowing out of China at a record pace and the central bank is drawing down reserves to support the renminbi after its recent dramatic fall. A lack of clarity over how China calculates its reserves and how much is readily available to deploy at short notice has intensified these concerns. As growth slows and bad debt rises, investors have viewed China’s massive forex pile… as the ultimate guarantor of financial stability. The prospect that reserves could be quickly exhausted raises doubts about the government’s ability to ward off crisis. It also limits the central bank’s ability to continue foreign exchange intervention, which may have cost as much as $200bn in August alone.”
Thus far, markets have been incredibly tolerant of erratic Chinese policymaking. “We don’t care how you do it, just stabilize your markets and economy.” But at the end of the day, I see a lack of trust weighing on the Chinese currency. China’s Hobson’s Choice: aggressively inflate Credit or not. And this will put the currency at risk – the currency peg at risk. Currency controls, state-directed currency manipulation and derivatives to mask “capital” flight only increase the risk of financial accidents. Commodities and developed sovereign debt markets seem to confirm that China is not out of the woods.
FT’s Wolf: “I ask him whether he is confident that the improvement in the resilience of the banks is adequate. ‘It’s a fool’s game to predict that everything is going to be fine, because either it is fine, in which case nobody remembers your prediction, or something happens, and then …’ They remember your prediction, I interject. Bernanke continues: ‘My mentor, Dale Jorgenson [of Harvard], used to say — and Larry Summers used to say this, too — that, ‘If you never miss a plane, you’re spending too much time in airports.’ If you absolutely rule out any possibility of any kind of financial crisis, then probably you’re reducing risk too much, in terms of the growth and innovation in the economy.’”
Miss your plane and you reschedule a later flight. And the issue is certainly not ruling out “any possibility of any kind of financial crisis.” By now we should recognize that failed experimental monetary management was the leading culprit in the so-called “worst financial crisis since the Great Depression.” So what’s at risk today from much more egregious monetary experimentation? With runaway Bubbles at risk or faltering around the globe, central bankers are left with a choice of pushing ever forward with monetary inflation and market manipulation – or coming clean. Clearly they believe they have no choice at all.
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Just pop will ya?
The way the Obama and Bush policies are slaughtering America's middle class is not different from the way the federal Bureau of Land Management allowed the illegal slaughter of 1,794 wild horses, sold to an insider who was friends of Interior Secretary Salazar. Just like with the bankster bailout, this insider was immune from prosecution even though he broke the law, selling wild horses to Mexican slaughterhouses. This is the same BLM that went after Cliveden Bundy to seize his ranchland, adjacent to a big parcel of range owned by Senator Harry Reid. The corruption never ends.
BLM illegally sold thousands of wild horses for slaughter: report
The Bureau of Land Management, the agency tasked with protecting wild horses and cattle and their grazing lands, sold 1,794 federally-protected wild horses to a Colorado rancher who sent them to slaughter, a new report confirmed.
Between 2009 and 2012, rancher Tom Davis purchased the horses through the agency’s Wild Horse and Burro Program (WH&B) and wrongfully sent them to slaughter, according to the report from the Interior Department’s Office of Inspector General. According to the allegations and news reports, Mr. Davis also had farming and trucking connections with former Secretary of the Interior Ken Salazar.
“We determined that BLM did not follow current law while managing WH&B. BLM also failed to follow its own policy of limiting horse sales and ensuring that the horses sold went to good homes and were not slaughtered,” investigators wrote in the report.
Mr. Davis admitted that most of the horses that he purchased through the BLM went to slaughter.
He told investigators that “in selling so many loads of horses, BLM had to know that the horses would end up at the slaughterhouse.”
The wrongful sale also cost taxpayers $140,000 to deliver truckloads of horses to Mr. Davis. He paid $10 a piece for the horses, or less than $18,000 total, and made as much as $154,000 in profits by selling them for slaughter, according to the report.
BLM employees never attempted to verify the information that Mr. Davis provided regarding his intentions for the horses he bought, despite the unusually large number of horses being sold to him, investigators wrote. The agency also did not stop selling horses to Mr. Davis after receiving reports that he was sending the horses to slaughter.
The OIG declined to investigate Mr. Davis’ ties to Mr. Salazar.
The investigation was referred to the U.S. Attorney’s Office for the District of Colorado as well as the State of Colorado Conejos County District Attorney’s Office, which declined civil and criminal prosecution, according to the report.
“It took more than three years for the OIG to confirm what we’ve always known – that the BLM sold 1,795 federally-protected wild horses to a known kill buyer who sold them to slaughter,” said Suzanne Roy, Director of the American Wild Horse Preservation Campaign (AWHPC). “Unfortunately, there will be no justice for these mustangs, who suffered a brutal death in Mexican slaughter plants. No one at the BLM is being held accountable for this betrayal, and Tom Davis is not being prosecuted for violating his contractual obligation to not sell the horses for slaughter.”
In their response to the report, BLM officials said they are taking the matter very seriously and have taken preventative measures to ensure horses sold by the agency do not end up at slaughterhouses in the future.
BLM officials also said that the agency no longer has any business relationship with Mr. Davis and will not in the future.
The housing bubble was a policy decision made in the late 90's when the gov't/IRS changed the capital gains tax on primary home sales to allow an exclusion of 250K single or 500K married in homes lived in for over 2 years. This led to flipping and every swinging dick with a hammer building houses to live in for 2 years then selling them. I know folks who did this every 2 years religiously in the boom times. It was definitely a policy and the FED along with anyone else with half a brain knows it.
Central Banking's tag line:
"How to kill the middle class, rob three generations blind, and reestablish serfdom while building a new aristocracy - in one easy step!"
+1000
This is not your fathers aristocracy.
When discussing the FED, it's really more of a Sophie's Choice than a Hobson's Choice.
"As Ben Bernanke’s book tour lingers on,"
Meetings held in a phone booth ?
I thought Goldman bought up all Ben's books
maybe he's going to run, and his PAC bought them all
Kill the Fed. Let God sort it out.
I fucking well hope 'ole Jesus comes back to throw those moneychangers out of the temple again, and does it right this time.
I am not religious, but if he comes across on this one, I would be convinced.
Central Banks are there to steal as much as possible from the less well-to-do and transfer the ill-gotten gains to the ultra-wealthy. In that, they have succeeded splendidly.
But to carry on the pretext of "growing" the economy, they are running out of economy to bleed. They should have saved a little bit of warm blood for their victims' survival- but that is like asking a rat not to bite every apple in the barrel.
The only question remaining is where are all these criminals going to hide on this finite earth.
"Stop whoring for Wall Street"
http://www.showrealhist.com/yTRIAL.html
http://patrick.net/?p=1223928
Way back when it was done to the Native Indians and it never really stopped.
Now it's the Middle classes turn until they are extinct. Guess everyone cares about these moral injustices now that it's impacting them directly.
way back when, it was done to Cro-Magnon and it hasn't stopped since then.
More Faustian than Hobson. There are good choices...the FED ignores those. They made a deal with the devils on Wall Street. Bernanke is now collecting his bribe money...as will Obama, his cabinet, and the congress.
Hobson’s choice? The difference in this scenario is the markets will eventually correct against all of the manipulation; similar to the failed Forest Service Policy.
its more like the Cheney doctrine, or the 1% justification for preemptive action if there is even a 1% threat that (Iraq) will act against the United States. 1% in this case is the fat tail, the Fed now has to use preemptive measures all the time, theres no such thing as emergency, its all emergency all the time. it shouldnt be wasted on those who follow this line that the dow was around 6000 when the Iraq war started (the war was supposed to cost a lot less than a trillion, but is now estimated at at least 2T and with the collapse of Iraq probably a lot more. and it went off balance sheet. the analogy to the fed and the iraq war are also quite literal as money on pallets in the basement of mariner eccles was loaded onto aircraft for IRaq and thrown from the back of pickups. non helicopter helicopter money. is suspect that until the ME policy is rescinded or corrupted and finally denied, there will be no monetary resolution, though the whole world is now implicated, the coalition of the (U.N.) willing.
Japan had the mother of all real estate bubbles that burst in 1989, but it only affected Japan.
James Rickards in Currency Wars gives some figures for the loss magnification of complex financial instruments/derivatives in 2008.
Losses from sub-prime - less than $300 billion
With derivative amplification - over $6 trillion
"It’s nearly $14 trillion pyramid of super leveraged toxic assets was built on the back of $1.4 trillion of US sub-prime loans, and dispersed throughout the world" (pg 404, “All the Presidents Bankers”, Nomi Prins)
The real problem in 2008 was derivatives.
What have we done about them?
"In concert, global central bankers now aggressively accommodate financial Bubbles."
GUARANTEED TO BURST.
Meanwhile, vast swaths of the economy suffer from structural stagnation, the aftermath of previous boom/bust episodes. Here, monetary accommodation has little impact. And this stagnation plays a major role in seemingly benign aggregate consumer inflation and economic output data."
Right.
It's called the middle class, and western corporate outsourcing caused it.
Central bank "reflation targets" are insane, even conceptually. We can certainly see what the bastards within THESE organizations have achieved to "manage" the economy.
But...even this is a mere backdrop to what completely brainless, western corporate outsourcing has done to not only us, but to most of the rest of the world.
Central bank economy management MUST go; there's NO question about that.
Congress needs a major (constitutional) overhaul badly as well. It is incapable of cleaning and restoring itself. Elections are pointless too. It is the electorate raising hell, and asserting themselves, that will set the overhaul in motion there.
But...western corporate STRUCTURE and, profit-at-all-costs power, is THE single biggest threat this country has ever faced. The mindless, short sighted outsourcing of WHOLE industries and livelihoods, destroyed the greatest source of wealth creation and economic power the world has EVER seen: the American middle class.
http://endoftheamericandream.com/archives/goodbye-middle-class-51-percen...
WHO do you think did this to YOU?
What have they done to create the brewing disaster in China and the so-called EM's?
How do you think THOSE people feel about US?
Fact: We will NOT get better until the damage done to this country, for more than FOUR decades, is combated, restored, the perpetrators punished and kept from EVER being able to repeat such traitorous damage again (something they CONTINUE to do without regard, responsibility, OR accountability).
And THAT requires action from US.
m