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
(51 votes)
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S Dog
The ECB holds gold MARKED TO MARKET...this is important and negates the skepticism you seem to have.
If they buy physical gold by the hundred of tons the price will skyrocket. It rose 24 fold in the late 70s because of physical demand. If they create new currency and it is backed by high priced gold it could be a very stable event. IT WOULD HERALD THE NEW USE OF PHYSICAL GOLD as the new reserve. It takes some thinking to get this to make sense but it does. We find it hard to see now because we see gold only in dollar terms and there is a gold derivative market that effectively keeps the POG low. If that is gone we could see gold used in a whole new way. This is how we freegolders get to the 55k price of gold. It is not a hyperinflationary run up. It is a novel and unique role that the metal will play.
The ECB already has 10,800 tons so I'm pretty sure they have put some thought into this.
Looks good on paper, implementation could be tricky ...y'know with all the nuclear explosions and all.
Obama can just seize it by Executive Order.
They have to find it to seize it...
Good luck on that sock hunt...
Downvoted because this smacks of a petty opportunity to make a jab at Obama, a Party Pussy comment.
We ALL KNOW that an executive order "could" be given. If you think that if the Coke POTUS (or would that be the "Pepsi" POTUS? - I keep losing track of which team is which), at the command of TPTB wouldn't look to do likewise then...
That said, the notion of physical confiscation is NOT necessary. How gold/PMs can be subverted is via electronic currencies (bitcoin- under control of TPTB of course- like duh!) and laws prohibiting/discouraging trade in anything other than them: see someone trading using "dollars" or "gold/pms" and call 1-800-rat-em-out for your "FREE" electronic tokens (which can be "conveniently" exchanged, under the "protection" of the NSA!, for things such as Coke, Pepsi or iShit!).
Party Pussies and other emotional knee-jerkers will ALWAYS miss what's coming... (and I have no empathy)
Downvoted for your own knee-jerk reaction to defend Obama. Pot meet kettle.
it would be easier to seize all the gold etf's
beside all the games with PMs, the top 20 primary holders can always take out their physical.
I get what is said in the post - 16 Dec WAS a policy error.
But come on. THE ERROR was the bailout(s), QE1, QE2, etc
HELL - THE ORIGINAL ERROR was made on 23 Dec 1913: https://en.wikipedia.org/wiki/History_of_the_Federal_Reserve_System
Pete
Indeed. After seven years of ZIRP, you HAVE to raise interest rates. There is simply no other option. Yes the consequences will be hard, but the consequences of doing nothing will be worse.
And God help us if the Fed ever goes NIRP. The global economy would collapse almost overnight. Japan and the Eurozone can go NIRP because they have the Fed as a backstop. If the Fed goes NIRP, we slip into the black hole.
Fed doesn't have the guts or desire to let a painful recovery occur. Instead, they'll run to the presses. Whether they go NIRP is uncertain but I'd speculate they will...in lockstep with everyone else going more NIRP so dollar remains cleanest dirty shirt. Everyone else seems eager to print more.
Expanding the money supply faster than productivity (counterfeiting) is the same as NIRP. They are stealing savings. That's what we've had since 2008. QE of $2+Trillion coming after the next crash. Maybe, Sep-Oct. to prop up the Dems, like last time.
"Fed doesn't have the guts or desire to let a painful recovery occur."
That's a BIG assumption, that there CAN be a "recovery." A recovery to what?
How are you going to recover from our demographics problem?
http://econimica.blogspot.com/2016/01/sources-of-growth-examined-and-fou...
Ignore this problem and you will NEVER resolve the problems that you believe exist.
Another sickening closet endorsement of the Fed. You can pray all you want over Fed policy, but for the average person life would be better if the crinimal zionist banking Cabal self imploded.
A healty and robust economy is NOT knocked down to the pavement and decapitated by a .25% rate hike.....
even an anemic one.
This is how I put the .25 hike into context for a former girlfriend:
With a 30yr, $250k mortgage at 4%, payments would be $1,193/month, and, at 4.25%, $1,229 and change.
$36/month, seen through that lens, is what we're talking about. Obviously, if one could truly afford a $1200/month mortgage, that bump would be virtually unnoticeable. The current, wildly precarious state of the world's economic system should be equally obvious.Property taxes and insurance jack the bill up as part of the cabal connected fraud on free people. The assessed value of the home will not go down after the RE crash, taxes will go up. Gov workers and banks will always want their pay, even if the majority can't afford it.
When folks were telling me that housing prices would never fall I sold.
I bought my current property and watched my property taxes go down. They've bumped back up, but compared to the assessed value they're still lower (in pure numerical terms they have not yet exceeded what they originally were). NOTE: I have zoning perks that diminish my taxes, but those perks were actually detuned (and properly so) somewhat.
Some of the logic that I used to determine that property taxes couldn't run rampant (other than the obvious of plain folks being handcuffed) was that more and more property was falling back on to the banks' books and if there's any entity that has influence over govt policies it's the banking sector.
Though I won't say that it's not possible, though I have a difficult time imagining how it could be anything other than the case, that insurance rates continue to rise. I'm contemplating dropping my home insurance: though I don't need to do so now, it's nice to have it in my bag of expense-cutting measures.
"Gov workers and banks will always want their pay, even if the majority can't afford it."
When you have a good contract to back things up with then I don't see what's wrong here. If there's a beef then contracts/legislature ought to be changed. When times were glowing I don't recall people complaining about this. BUT, yes, I do agree that expecting to get blood out of a turnip isn't very smart. Sigh, thus the power of the gun...
Stay out of emotional traps. Be smart/wise. No other way to navigate these muddy waters...
Great post, Seer. If you don't mind me asking, what type of hedge plays have you/are you in to (besides the obvious stacking, etc.), if any at all? Do you see any global markets as long-term potential 'insurance'?
Everything is relative. Both ins. and taxes went up for me adding over 100/mo. The schools, fire and police all got extra; never heard so many sirens going off in this small town as during the weeks leading to the overide vote.
Yup, for sure, that didn't put the stink in the dead fish!
Yep... it was a token increase to re-establish the 'credibility of the fed' after threatening to raise rates to scare PM holders for years to let loose of their holdings.
come on guys. duh.
the real history is agenda driven. expand expand expand then contract. rinse and repeat.
we know this. there is more than enough evidence. imagining it's stupidity is so naive. it's ON PURPOSE.
deregulate global financial markets
deregulate global trade
bankrupt nations
privatize EVERYTHING
this is how a few have monopolized the world's resources. its not obummer, or bush, or any person. it's a cabal.
P < P + I
Of course it's a cabal. They are very careful and control every member state system from the roots: education, entairtainment, production corporations and energy resources.
The cabal has under control billions of people and at most several tousand of people know about them. Because the slaves were not told about it in MSM, schools, jobs and family dinners.I wonder if this is ever going to change..
Well, everything has a beginning, a middle, and then an end. That some can see this, and take advantage of it, while others cannot means?
Nature is deceptive. Humans are OF nature.
We are ALL suspects. We ALL play this same game. You say that you don't like the "end," the "decline" part? OK, then there cannot be the "beginning" part! The middle part is just right you say? Well, the middle is but a transitory blip in time which delineates the "beginning" and the "end" points. We can ONLY either be growing or declining. There are cycles and humans have no ability to sidestep them (as long as we don't somehow transcend- I'm not putting my money on this happening).
What those that you abhor are responsible for is for provoking growth. Eventually growth leads to death. It is death that you are now claiming them responsible for! Can't pick and choose here.
It is mathematically impossible for all interest-laden contracts to be 100% filled. Yet! We've been going day after day, year after year, stock piling more and more of them. And we think that ridding ourselves of the Fed (or any other group) will "cure" this little problem?
Our System is one of growth. "Interest" is heavily bonded to it, we HAVE to have "interest" repaid lest our promises to the future fail. As noted above, it's NOT possible to meet our "legal" contracts; therefore, for all practical discussion, the future is cast to deliver a big FAIL. Shoot whomever you wish, but then what, what do you propose to do with all those contracts? AND, most importantly, what do you propose to do about the FACT that growth leads to certain collapse?
Yes again. Another upvote.
That is why equity will (and must) be extinguished. Simply due to the math.
Notice as collapse came to greece/portugal/cyprus the bankers protected sovereign debt first and then bank debt. The interest must be paid or the system implodes.
Stay out of stock markets. Equity is simply excess profits being gambled. In hard times it is gone.
It can no longer be 'repeated' though - it's all been 'wrung' out ! The world is out of things that can 'stimulate'.
They mention everything except 20 trillion dollar debt - what was the ratio then? Financial engineering - FRAUD. Dollar to protect military, miltary to protect dollar, the ultimate ponzi scheme. No manufacturing. Social programs out the ass. Other than that, its the same.
And that this time it's Global! (harder to export the problem, though, and again on has to give a tip of the hat to them, the Fed has managed to do a fair job here of this, though eventually it will end, as ll things do).
I would also say that the tightening really started over a year through jawboning.
Long tar and feathers.
There isn't enough pain, yet.
Long wood chippers, rope and Piñata sticks.
Just in time for war and martial law. Selections of course will have to be suspended until the "crisis is over".
This may all be correct but I fail to understand why the FED's decision to hike the rate by an incremental step of 25 points is considered to be a mistake. Isn't it correct that the ZIRP policy has been frequently (and rightfully) critized on this page?
I agree. If .25 bps "wrecks" the economy and a "recovery", then that economy or recovery was not much to begin with, that it could be wiped out with such an inconsequential rate hike.
Yup, Schiff was 100% correct here...
Antal Fekete points out that what matters is the *relative* size of the rate rise. When rates are at a historically normal 5% or 6%, then, yes, a quarter point isn't a lot. But if your rates are only .50% and you raise a "measly" .25%, your bonds have lost bigtime.
The leverage on the way back up is a BITCH.
Because the grand "experiment" has once again suckered millions of people into the casino and now what's left of their wealth is about to be plundered again. This isn't a mistake by the way, it was all part of the plan.
I doubt that individuals, on an individual basis (self-investors), are being fished here. It's a shifting of the BIG coffers. Collectively we're pretty screwed owing to our demographics (as are many countries); it's nothing that is going to be resolved through "simple" money "transfers."
Years ago I warned that there'd be increasing volatility as capital concentrated in fewer buckets and then bashed around in search of higher returns than the other bucket.
But, cry me a river. There's like 750 MILLION people in India who live on $0.50 a day. I just got back from Manila, where there's plenty of people where the notion of "wealth" or "retirement" just doesn't exist/apply. I KNOW what REALITY is like. Further, to believe that TPTB desire to fuck things up when its the status quo that keeps them in power, well... it comes down to hearing such things as being from someone who has just done poorly at the casino (most on this planet cannot even afford to step inside the casino- I long ago opted to not go in).
The Fed "employees" make millions and the morons can't even do their jobs? They can't even read the history of their own Company? Now that's a dream job. And anyway, MoronLivesMatter
They can't do their job because their job is undoable and immoral. Their job is to fight mother nature and obfuscate reality. They should not exist.
Their job is to delay the collapse, look at it that way and they are doing ok.
You misunderstand what the fed's job really is and who they serve. Their job is to transfer the wealth of the nation upward and in that area they are doing exceedingly well at.
You're right Doc. It's just really hard to believe we live with other humans that make that evil their lifes goal; But again I have to ask, How much is enough? Is it a hundred million a hundred billion? These people could live out their last decades in ultimate luxury. Yet they demand MOAR and will destroy entire Nations to get it. Maybe that lust for power overrides every emotion and logic in the minds of the sociopaths.
At what point are you hating them vs hating that you're not like them?
Ever traveled to more realistic places? MOST humans on the planet have no concept of retirement (other than being cared for by their offspring). 750 million people in India live on $0.50 a day!
No, you/we are trying to dissect the behaviors of virtual wizards operating on a virtual plane whle never being able to escape the realities of the physical. You/I/We have been recipients of their trickery: and we refuse to acknowledge it. The game could have never gone on forever. At some point everyone will have to let go...
Upvoted.
Something like 80% of the world population lives on $10 a day or less. They are happy even though they have no concept of Mcmansions and iPhones.
The fed/bankster system may be denigrated here on ZH as being unfair or corrupt, but this system has allowed westerners to live like kings in comparison. There was no way that could go on forever. There simply aren't enough productive jobs for more than a few 100 million globally. But the rest can live a subsistence lifestyle without all the trappings of a rich society.
That is the future of the world. No need to cry about it. We enjoyed the summer, spring and fall. Now winter is approaching. Expect ratcheted down lifestyles, but not at all unpleasant once mindsets get more reasonable.