The Fed's Stunning Admission Of What Happens Next
Following an epic stock rout to start the year, one which has wiped out trillions in market capitalization, it has rapidly become a consensus view (even by staunch Fed supporters such as the Nikkei Times) that the Fed committed a gross policy mistake by hiking rates on December 16, so much so that this week none other than former Fed president Kocherlakota openly mocked the Fed's credibility when he pointed out the near record plunge in forward breakevens suggesting the market has called the Fed's bluff on rising inflation.
All of this happened before JPM cut its Q4 GDP estimate from 1.0% to 0.1% in the quarter in which Yellen hiked.
To be sure, the dramatic reaction and outcome following the Fed's "error" rate hike was predicted on this website on many occasions, most recently two weeks prior to the rate hike in "This Is What Happened The Last Time The Fed Hiked While The U.S. Was In Recession" when we demonstrated what would happen once the Fed unleashed the "Ghost of 1937."
As we pointed out in early December, conveniently we have a great historical primer of what happened the last time the Fed hiked at a time when it misread the US economy, which was also at or below stall speed, and the Fed incorrectly assumed it was growing.
We are talking of course, about the infamous RRR-hike of 1936-1937, which took place smack in the middle of the Great Recession.
Here is what happened then, as we described previously in June.
[No episode is more comparable to what is about to happen] than what happened in the US in 1937, smack in the middle of the Great Depression. This is the only time in US history which is analogous to what the Fed will attempt to do, and not only because short rates collapsed to zero between 1929-36 but because the Fed’s balance sheet jumped from 5% to 20% of GDP to offset the Great Depression.
Just like now.
Follows a detailed narrative of precisely what happened from a recent Bridgewater note:
The first tightening in August 1936 did not hurt stock prices or the economy, as is typical.
The tightening of monetary policy was intensified by currency devaluations by France and Switzerland, which chose not to move in lock-step with the US tightening. The demand for dollars increased. By late 1936, the President and other policy makers became increasingly concerned by gold inflows (which allowed faster money and credit growth).
The economy remained strong going into early 1937. The stock market was still rising, industrial production remained strong, and inflation had ticked up to around 5%. The second tightening came in March of 1937 and the third one came in May. While neither the Fed nor the Treasury anticipated that the increase in required reserves combined with the sterilization program would push rates higher, the tighter money and reduced liquidity led to a sell-off in bonds, a rise in the short rate, and a sell-off in stocks. Following the second increase in reserves in March 1937, both the short-term rate and the bond yield spiked.
Stocks also fell that month nearly 10%. They bottomed a year later, in March of 1938, declining more than 50%!
Or, as Bank of America summarizes it: "The Fed exit strategy completely failed as the money supply immediately contracted; Fed tightening in H1’37 was followed in H2’37 by a severe recession and a 49% collapse in the Dow Jones."
* * *
As it turns out, however, the Fed did not even have to read this blog, or Bank of America, or even Bridgewater, to know the result of its rate hike. All it had to do was to read... the Fed.
But first, as J Pierpont Morgan reminds us, it was Charles Kindleberger's "The World in Depression" which summarized succinctly just how 2015/2016 is a carbon copy of the 1936/1937 period. In explaining how and why both the markets and the economy imploded so spectacularly after the Fed's decision to tighten in 1936, Kindleberger says:
"For a considerable time there was no understanding of what had happened. Then it became clear. The spurt in activity from October 1936 had been dominated by inventory accumulation. This was especially the case in automobiles, where, because of fears of strikes, supplies of new cars had been built up. It was the same in steel and textiles - two other industries with strong CIO unions."
If all off this sounds oddly familiar, here's the reason why: as we showed just last week, while inventories remain at record levels, wholesale sales are crashing, and the result is that the nominal spread between inventories and sales is all time high.
The inventory liquidation cycle was previewed all the way back in June in "The Coming US Recession Charted" long before it bacame "conventional wisdom."
Kindleberger continues:
When it became evident after the spring of of 1937 that commodity prices were not going to continue upward, the basis for the inventory accumulation was undermined, and first in textiles, then in steel, the reverse procees took place.
Oil anyone?
And then this: "The steepest economic descent in the history of the United States, which lost half the ground gained for many indexes since 1932, proved that the economic recovery in the United States had been built on an illusion."
Which, of course, is what we have been saying since day 1, and which even such finance legends as Bill Gross now openly admit when they say that the zero-percent interest rates and quantitative easing created leverage that fueled a wealth effect and propped up markets in a way that now seems unsustainable, adding that "the wealth effect is created by leverage based on QE’s and 0% rates."
And not just Bill Gross. The Fed itself.
Yes, it was the Fed itself who, in its Federal Reserve Bulletin from June 1938 as transcribed in the 8th Annual General Meeting of the Bank of International Settlements, uttered the following prophetic words:
The events of 1929 taught us that the absence of any rise in prices did not prove that no crisis was pending. 1937 has taught us that an abundant supply of gold and a cheap money policy do not prevent prices from falling.
If only the Fed had listened to, well, the Fed.
What happened next? The chart below shows the stock market reaction in 1937 to the Fed's attempt to tighten smack in the middle pf the Great Depression.
If the Fed was right, the far more prophetic 1937 Fed that is not the current wealth effect-pandering iteration, then the market is about to see half its value wiped out.
h/t @pierpont_morgan
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Fuck the Fed. All the way to Wall Street.
How the Fed systematically destroyed American society >> https://goo.gl/IoiSjv
The can-kicking has entered its terminal phase – Kicking the can into the wall. ;-)
Looney
QE to infinity up next.
The FED didn't commit any 'error' by hiking rates. It did what it ALWAYS does.
Grandma YENTA Yellen was making her fellow GS tribe members 'richer' because all their short positions were firmly in place.
Goy sheep will be sheared in the process, they'll all laugh their asses off and toast themselves with some Manischewitz and congratulate themselves as being masters of the universe all because they succeeded in blackmailing Woody Woodpecker Wilson 100 years ago.
Then it'll all start again, & we'll get to put our lives back together & be treated with Spielberg entertainment to smooth out the rough spots.
"Never have so few been given so much ... by the Fed."
Get your gold, guns and beans ready. END THE FED!
They only made a mistake if they didn’t want the market crash. On the other hand if they feel as if they need the political cover that a crisis will provide to get the additional policy tools they want such as significantly negative rates or banning cash, raising rates is exactly what they needed. Explained here.
The destruction caused by financial bubble collapse after a period of loose money can never be addressed by more loose money.
That is evident by inspection.
Greenspan's argument that you could never stop bubbles, only address the collapse (with loose money) is similarly not true.
The issue is that there should be no central monetary planning as it allows bubble blowing by the central planners.
blah blah blah.......who is talking their book here?
The simple fact is capital is being horribly misallocated at these interest rates. Were I in charge I would raise immediately to some raasonable level where the shenanigans on Wall St. become a little too expensive to play.
Main St will never recover until interest rates are LIFTED.
The first thing these stupid fuckers need to understand is that rampant financialization destroys productivity, and without productivity backing up their fiat, deflation is assured. Stupid fuckers. they thought they could steal wealth without the theft being consequential to the system they erected for this purpose. Stupid fuckers.
The debt markets need an orderly restructuring.
With $63 trillion of total US credit market debt, rising rates will bring collapse.
We absolutely need higher rates (see Austrian theory of Time Preference) and that necessitates debt restructuring and restructuring of the banking system.
The situation in the US is nothing like it was in 1937! In 1937 we were not a debtor nation. We had ample undiscovered and unused resources. We had a responsible, moral and civil society. We didn't have a huge bloated government. The only similarity are the Fed's follies. Except this time they are much, much bigger.
and our factories were practically brand new. Now they are empty or lofts.
An equity manager with whom I worked some 30 years ago was in the same 4 some as me the other day. We were on the first tee, he's taking his swing and right at the top of his back-swing, he holds the pose, looks at me and says "Janet doesn't know what the fuck she's doing.", and hits the ball.
Nuff said.
However, I will caution you, dear reders ... We are caught in a Liquidity Trap (Meaning that monetary policy is largely impotent) which is caused by non-monetary factors; fiscal policy, regulation, etc.
There is no fiscal or regulatory relief in sight, ergo ....
Ergo, nothing changes EXCEPT the PTB will blame the FED for the economic malaise.
This is frying pans into fires
Hillary for Prison 2016
The liquidity trap is caused by excess debt levels and distorted economy from that debt/ loose money.
Net: more loose money will give no relief.
Are Asian futures open? Link?
Edge of seat and have some popcorn in the microwave...
Where was ZH last week for the Audit the Fed vote. For a website that is supposed to be about the financial markets, you would think they would have covered the story much more (I didn't see it covered at all). Last week, because of Rand Paul's senate bill, we were a few votes from auditing the fed. Closest we have ever been to transparent monetary 1913. A little pressure from free market people that read ZH might have helped push the bill to passing (who knows Cruz may have had to show up to work that day).
It was covered right here.
http://www.zerohedge.com/news/2016-01-13/banksters-win-again-audit-fed-b...
Now get off the internet before your stupidity infects the rest of us.
You are sounding real confident typing insults to strangers on the internet. Obviously, common core has not educated you properly. From my comment above, an educated person would have inferred that I meant the coverage should have occured BEFORE the vote (so we could tell Cruz to show up to work o n that very important day).
The article you linked to was after the vote. Where was the article before the vote? You know, so the concerned Americans could contact their senators to vote for it? I may have missed it. That is a serious question, but you would think that one of the most important votes in the past 100 years would have had some atention at a site that focuses on the economy.
I get it. You're one of those nut jobs who believes that political solutions are sitll possible. Do you think any audit of the fed would be anything even resembling transparent? Kinda like the 9/11 comission was transparent, you know?
did i hear someone yellend "f#@* the auditors"?
exactly why we are fucked, drip, drip til hole thru your brain, (not mine), ha...
~"Net: more loose money will give no relief."~
Cool. Does this mean we can get back the $8 trillion we gave the big banks to save their asses?
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The Fed is not in control of anything constructive. They can only hasten the collapse no matter what they do. Destruction is already baked in the cake. Get over it ZH. You didn't call this one right no matter how many articles like this you publish. 0.25% increase is the cause of our malaise? Get real.
hook, slice or smoothly arching draw?
https://www.youtube.com/watch?v=e5u7yZiV3bI
janus
Did he crush it?
It went down and to the right.
Just like Janet's dick. All kidding aside, never think of Janet while playing golf. Ruins the game.
...and the greatest generation was about to enter WW11. Now most Americans are fat and out of shape.
Howver, they have created a massive disincentive for raising rates. They can't do it - even a 25 basis point increase has almost stalled the entire global economy.
We are living in an ear of credentialism. Those with the right credentials (and supporting all the 'right' social policies) have been catapulted to the top of every major institituion. Yellen will be ragrded as a catastrophic choice in 10 years time, but she suits the Obama era to a tee.
Anybody who can understand basic economics knows that distorted credit markets are not efficient and lead to groos misallocation of capital. If you think the past six years have been a success, you're fucking retarded and too stupid to vote in future. We are living in our own Ponzi scheme, created and sustained by the Fed and Obama's acolytes, none of whom is fit to run a hot dog stand.
What comes next? - Chaos
.
After that? - Order
Then the real shit show begins.
.
We've been hoodwinked.
No mistake. The bankers are through with the U.S. There's gonna be a war and the bankers will back Russia. Russia can repay the debt - the U.S won't have anything but weimar style inflation and full on civil/race wars.
Very soon you will see Russia and Israel move closer to one another. They will talk about their 'special' relationship etc. (Putin already does) Europe will descend into chaos and a lot of muslims will be killed. The Western jews will escape the mayhem and head to Israel and Israel will get ready-built financial/technology/media and film industries. At the same time, seeing as the fashionable thing to do would be to kill muslims, the Israelis will go nuts and clean the middle-east of Islam entirely. Then there will be a new world order... with Israel at the summit.
So what is the BAD news?
They still need US military power in the ME.
Main St. never meant to have any recovery.
Yes, Tylers, you called it. But since the economy is saturated with malinvestment caused by too much easy money for too long, I fail to see how America pulls out of the downturn as long as the spigots are left open. The malinvestment must be purged from the system, and a crash is how that happens. Feel free to blame the Fed for making rates too dovish though; that was totally on them.
Exactly.
I know of NO ONE that took their WS earnings and paid off debt. They let it ride and put more in. They bought another rental instead of paying off the first three.
No plan other than to play the game with the big guys, knowing full well the only ones with money at the end of the game would be the ultra rich. Unfortunately, many pensions are run the same way, gambled away by companies that believe the hucksters that sell the stocks and funds, who if they really knew what they were doing, would not need to do that. They'd all ready be rich and sipping well aged whiskey on a warm beach somewhere.
For years Main Street has been fucked by wall street. Savings is unheard of, the gov awards bonus points to "investors" via IRAs and 401k's. When I bought my first house, I had money in a passbook savings account to pay the 20% down and all fees for the loan. Of course, my ex was stunned, as he used to scream about saved money losing value during inflation. He was blown away a second time when I sold the house three years later and made a 50% profit. Like I wrote, he is "ex". I have never considered my house an investment, which is a bonus. It is where I live, raise children, and enjoy a modicum of safety from sheep and morons. Far too many think of their house as an investment and it wasn't lost on me that many lost them, including my ex BIL/SIL because they took the equity out to play and invest. 19.5 years of payments and suddenly they are homeless. LOLOLOLOLOLOLOL.
Some of us will never "win" money in the lottery they call Wall Street. That's fine. I don't play it. I hate it though that my tax dollars were spent to bail out criminals who just went out and did the same thing to the nth degree, and the sheep just could not imagine that it was going to have the same outcome.
The fed is to blame only because they threw out money into a system. The investors that lose their shorts are getting exactly what history said they would get. Fleeced.
Susie, I don't know you but I think I love you.
"I know of NO ONE that took their WS earnings and paid off debt."
Exactly.
Fortunately, I started studying markets and economics on my own about a decade ago, and thanks to guys like Schiff and Bass, I was forewarned about the sub-prime crisis and subsequent crash.
While we didn't know exactly when it was coming, Mrs. Shark and I began paying off debt and reducing leverage in anticipation. Meanwhile, everyone around us was still going on blythely like the good times would last forever. I was amazed how many friends and business associates, with 6-figure salaries, were living paycheck-to-paycheck while buying extravagent vacations, furnishings and cars; all on credit.
Of course, many of them got 'bailed-out' through subsidized refinancings, or simply resorted to 'Jing-Mail' and stuck the rest of us with their unpaid debt.
The saddest part, is after 7 or 8 years, we're right back where we were before the last crash. Some of those friends and associates are getting 100% LTV home loans (despite short-sales, foreclosures and personal bankruptcies), and are buying over-priced cars with 8-Year vehicle loans. They haven't learned a thing, because they were insulated from the consequences of their choices the last time by a paternalistic government.
They say the most difficult thing is to watch while your neighbor gets rich.
In reality, I think the most difficut thing is to live a fiscally responsible lifestyle while watching your neighbor live an extravagant, excessive existence; and then get bailed out despite their irresponsible actions.
In any case, my house is in order, and I'm ready for the coming crisis. This one is going to be much bigger than the last one, and I don't think the bailouts will be nearly as generous...
Yep.... see the same thing all the time.
You're a winner, SideTrackSusie, I maintained a 7.5 mortgage all through the bubble, paying down the balance with extra principle...did a refi for a modest influx of cash to do desperately needed home maintenance and minor improvements Interest is still higher than I'd like, but may refi once the Fed reverses course. Oh, bulk of cash received went right back to the principle. As the rates drop, as long as fees are minor, it made sense to refi.
"I fail to see how America pulls out of the downturn as long as the spigots are left open. The malinvestment must be purged from the system, and a crash is how that happens."
Yes...and judging from the Feds policy decision to effectively suspend mark-to-market on energy debts, we have a LONG way to go.
Everyone is expecting QE to infinity. Instead we'll probably get a bank holiday. The FED never seems to deliver what everyone expects. Or they will first do a Bank Holiday to devalue the overvalued dollar by 10% and then do another round of QE but guessing this time it just won't be free money. It will include some type of haircut.
Re-valued 'Scheisse dollar', to be precise...
Let's cut to the bottom line. We are nothing more than animals. True, we can think and our brains are highly developed. But we are all still animals. Think about that for a minute. We let these rich animals (Fed, bankers, Wall Street dicks) dictate how the rest of us animals shall exist. We let them.
Up until the guillotines are rolled out at every county seat
KesselRunin12Parsecs Then it'll all start again, & we'll get to put our lives back together & be treated with Spielberg entertainment
I love your optimism. I would love to see your statement proved right. I really mean that. Wonder why?
US population in 1913 was 100 million. Now: 318. And growing exponentially, even that slowed a little bit.
Back in 1913 not only the US was self-sufficient in oil and coal but both been ‘low hang fruit’. Not the case anymore.
Spielberg entertainment? Walking Dead, more likely.
But, as I said, hope your scenario is the right one.
Now, on The Fed: By Ben Bernanke on 60 Minutes: When there are sand castles built on beaches, there are lots of small waves which may hit them, without any negative result. But when a tidal wave comes, everything is wiped out.