Guest Post: The Unwelcome Impact of Interventionist Monetary Policy In The US

Tyler Durden's picture

A fascinating insight from Graham Giller of Statistical Trader Blog, who analyzes over 55 years of Treasury data to point to what is the crux of the problems of monetary policy since Greenspan took over the Fed. The Greenspan [and Bernanke] era monetary policy has altered the distribution of changes in interest rates in a way that exchanges a reduction in day-to-day 'normal' variability for a considerably higher (perhaps catastrophically higher as we are finding out this week) likelihood of extreme shocks.



I first made the attached chart in 2004 after attending a lecture by Benoit Mandelbrot, and reading his "Fractals and Scaling in Finance." Mandelbrot's argument based on his early research (in the 60's) on financial price data was that the variance of speculative prices was undefined (i.e. infinite). This has profound implications for quantitative finance as a venture since the error on the mean is proportional to the square root of the variance, and for a distribution with an infinite variance the law of large numbers does not apply ---- i.e. you cannot make precise measurements of the mean as there is no convergence of the sample mean towards the population mean. Mandelbrot's research was done before ideas such as stochastic volatility were created, and in a modern context we do find evidence of stable variance.

However, one of the interesting aspects of his work was to pose the question: how does one measure an infinite statistical moment from a finite data sample, since that finite sample will always give a finite answer? Mandelbrot suggested in his early papers looking at the time series of the cumulative sample moments of the data --- i.e. to measure using all data up to some time and to plot that value as a function of each and every time. If the true parameters of the distribution of the data being measured are unbounded (infinite) then this plot will show no signs of convergence --- the measured datum will march steadily away from zero as each additional data point is added.

Mandelbrot's ideas also apply to higher moments: the sampling error of the variance is determined by the kurtosis (degree of "fat tails") and so on. My plot illustrates the cumulative kurtosis, computed after Mandelbrot, of the daily change in US three month treasury bills. Ever since the arrival of Alan Greenspan's post '87 crash crisis management regime, this plot shows a systematic and steady march upwards in the kurtosis of changes in US interest rates. I find this chilling. This means that, if the truth is as the evidence suggests, that it is not possible to accurately determine the risk of a portfolio of bonds because it is not possible to make reliable measurements of the variance of interest rates. i.e. The whole enterprise of bond portfolio risk management is intrinsically unreliable.

The data also tells another story. Also plotted is the cumulative standard deviation of daily changes in rates. This shows a systematic (but slow) decline in the measured value. This indicates that the true value is below the current value of the cumulative measure and that the cumulative measure is slowly decaying towards that value. So a narrative for what the Greenspan era monetary policy has done to the distribution of changes in rates is to exchange a decreased daily variability for a higher (perhaps catastrophically higher as we have found out) likelihood for extreme shocks.

As you can see the Bernanke era has done little to modify the general trend. In 2006 I sent the chart to Jim Grant together with my prediction that something nasty was lurking in the future. I decided to revisit the analysis today and find nothing has changed. Discussions of the long-term consequences of interventionist monetary policy are increasing (though still not in the mainstream) and this plot shows the fingerprints of such policy writ large.


It is this constant papering-over of the day-to-day cracks (and business cycle) that is supposedly so beneficial for our society (and central planners) as a whole that creates a building tension as the underlying causes grow larger and larger and are never purged until in one fell swoop, the market mechanism finds a way.

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spiral_eyes's picture

"Greenspan [and Bernanke] era monetary policy has altered the distribution of changes in interest rates in a way that exchanges a reduction in day-to-day 'normal' variability for a considerably higher (perhaps catastrophically higher as we are finding out this week) likelihood of extreme shocks."

Exactly what Taleb has been saying all of 2011 and most of 2010 — if you remove day-to-day volatility from the markets (or life) you get extreme blowups.

Central planning, bitchez. 

max2205's picture

This Shit is way over my pay grade

Manthong's picture

I think it means in '87 Greenspan sold his soul to the devil and consigned us all to Hades and the hell fires of infinite fiat.

NumNutt's picture

Oh! Well shit why didn't he just say that instead of confusing us simple folks with all that fancy talk and big words. If I am fucked, please just tell me so.

TruthInSunshine's picture

Japan has used similar inteventionist monetary and fiscal stimulus policy since 1989. Krugman claims the Japanese didn't go far enough, when in truth, they expended record sums on both monetary and fiscal stimulus (Japan has spent more on concrete, asphalt, bridges and public works projects than any other nation in the world - including China - over the last 25 years).

Even more eerily, Japan has had incredibly low interest rates, and extremely low yields on its government bond offerings, for this period.

Further, Japan's total debt and debt as a percentage of GDP has exploded (the U.S. and major European nations are on a similar trajectory as Japan was 15 years ago, at this point), and Japan now has one of the largest debts as a % of GDP in the world.

Krugman and other Keynesians love to claim Japan is the classic example of a "liquidity trap," when in fact, Japan is a critical exhibit in the evidence that Keynesian economic theory is hogwash. If Krugman et al. were correct, Japan would have been on the path to healthy GDP growth, government revenue increases, and reduction in government deficit spending a long, long time ago.

Nikkei = Just under 40,000 in 1989

Nikkei = 8,500 as of today


That's a nominal loss of around 78%, and an inflation adjusted loss of 93%+, over the last 22 years, on a major equity index.


obejoyful's picture

Krugman is an idiot. That is his answer to all of those type scenario's (Japan, Greece, Italy, Spain, Portugal)  that fail the stimulus is / was to small.  He can never lose with that logic.

jaffa's picture

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jaffa's picture

Monetary policy rests on the relationship between the rates of interest in an economy, that is the price at which money can be borrowed, and the total supply of money. Monetary policy uses a variety of tools to control one or both of these, to influence outcomes like economic growth, inflation, exchange rates with other currencies and unemployment. Thanks a lot.
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DalaiLamaInAShark's picture

This whole analysis is based on the assumption of speculative pricing having an infinite variance (and non-stable statistics, etc.).   What if bond prices and associated interest rates were not purely speculative?

jeff montanye's picture

what the japanese never tried, unlike the nordic countries in their banking crisis in the latter '90's but like the u.s. and europe currently, is a profound restructuring of the financial sector with debt writedowns and bondholder haircuts.  with these changes can come counterparty transparency and the willingness to extend new credit to those actually able to pay it back.  

this is not rocket science but it requires politicians and regulators to tread on feet that refuse such treatment and have the political juice to back it up, so far.

SWRichmond's picture

Yup.  No balls in CONgress.  Status Quo Uber Alles.

jaffa's picture

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SWRichmond's picture

If only we could get someone on the six o clock news to make the case you just made.  I could be done in five minutes.  No one would dare engage in that much truth-telling.  No politician, no talking head, no one.

prains's picture

before dipshiticus 1.45, i mean IQ 145 tries to pontificate on this idea i would just like to step in and say;

one graph is going down dippy; (ie. gravitational/real/quantifiable) the other graph is diverging in an upward direction (hopium/unicorn dust) beware the gap dippy,in between the two lines, this is the killing field where ponzi's go to die (or buyers of the bounce). it's pretty simple dippy, you'll get the hang of it soon. sorry what was that, BAC 6.06 at the close. no skittles for you my friend.

SWRichmond's picture

beware the gap dippy,in between the two lines, this is the killing field where ponzi's go to die

That was some poetic shit right there, my friend.

Captain Willard's picture

This was a really good post and a good reply by spiral eyes.

But his analysis ignores the fact that the Fed switched from targeting monetary aggregates and their growth rates in the Volcker era to focusing on discount/Fed funds rate targets after inflation had been broken by Volcker (whose term ended in 1987). 

So it's not really overly instructive to compare one policy regime with another, since they used different policy tools and objective functions.

Since discount rates are changed in step-function fashion after Fed meetings, it might create more kurtosis than a regime targeting M1/M2 growth.

But it's also possible that more chaos gets created by Fed meddling, as the OP, spiral eyes and others have suggested.

glenlloyd's picture

It's highly likely that the interventions, in the long run, will create a great deal more chaos, and that's what's truly important here. Central planners can continue to believe that their actions have no negative consequences but the system itself is telling us otherwise. Perpetual control / manipulation is a myth, eventually the market will fall apart.

On the outside it doesn't 'appear' to be a problem but beneath the crunchy outer shell it's all just rotten. When the shell finally buckles under the weight of all the papering over and manipulation it's all over. And when that happens it will happen very quickly.

obejoyful's picture

Spiral Eyes you are exactly correct, Taleb nailed this issue in his paper:

Opacity: What We Do Not See

A Philosophical Notebook, by Nassim Nicholas Taleb


jaffa's picture

A central bank has several tools at its disposal. It can buy or sell federal agency securities, changing the amount of money available to businesses and people. Another tool is adjusting interest rates on loaned money; increasing them under contraction policy makes borrowing more difficult, and lowering rates is an expansionary tool encouraging businesses to obtain new capital. Thanks for sharing.
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ZapBranigan's picture


Ask yourself, what is the greatest threat to the central planners?  The answer is easy: any competing form of currency which could disable their control mechanisms.  This was the most important topic of conversation during the FOMC over Tuesday and Wednesday.  Today was an artificial prop of the dollar and a formalized attack on PMs and engaged enemies in the currency war.  Period.  The market drop was an understandable and accepted form of collateral damage.  But, ask yourself another question: Who suffered the most, percentage wise, today?  S&P?  Dow?  No, it was PM's and those that support them. (Miners) If you noticed the last-minute Dow prop twenty minutes before close, you will understand what happened today.  Gold had to close the lowest.  It's a clear message, but one that reeks of desperation.


Now that everyone is stocked and loaded in 'King' dollar, ask yourself a few more questions: When will the herd fully understand the debt dilemma?  How long can the debt problem be glossed over before the trader-sheep realize USTs are essentially junk?  Where will all that liquid go when 50% of traders decide to pull the trigger?


These are all just questions for you to ponder and come to your own conclusion.


Belarus's picture

Now that everyone is stocked and loaded in 'King' dollar, ask yourself a few more questions: When will the herd fully understand the debt dilemma?  How long can the debt problem be glossed over before the trader-sheep realize USTs are essentially junk?  Where will all that liquid go when 50% of traders decide to pull the trigger?

Exactly, once the dust settles with liquidation selling and manipulation drops, and all one is holding is USD's or 2.9% 30 year treasuries, and one realizes that the Government is spending and will continue to spend over $1 trillion + it doesn't have and funding unfunded defict spending becomes evermore problematic, the tide will shift again. Until then, expect choppy fucking waters because the the S + P 500 needs to drop another 50% in my models to shore up enough cash to fund treasury auctions over the next few years. 

Don't forget, we are headed to a Dow/Gold ratio of 1:1. So either the Dow will drop down to 500 with Gold at 500 or the Dow will go to 30,000 with Gold at 30,000. So, the only trade, if you want to play it safe is short equity/long gold. Of course, there will be a few bullshit days like this: such is life in volitility. 


nope-1004's picture

Clearly the PM's are manipulated.  BIGTIME.  You've got basically the only competing element that can bring down or expose the fiat fraud bankster game and it is PM's.  The US military machine can invade and destroy anyone inside of a week or so, but PM's need constant revisiting and attention - proof that people are more willing to engage PM's and buy them than anything drummed up by Benocide, Timmay, and Obummer.

Read Dave in Denver today, he spells out the manipulation pretty good.  I've been watching the LBMA open long enough to see that Comex and LBMA are working together for 2 main reasons: 1) they don't have the physical metal to fulfill all the paper issued, and 2)  buying PM's is a vote against fiat, which ends the bankster MO.  A vote against fiat is a vote to dispell large banks, credit, term loans, obligatory payment schedules, and interest.  They'd lose control, lose power, lose gaming strategy and lose financially.  Normal market price discovery of PM's also exposes inflation for what it is - a VERY real problem today.

You gotta know that the final innings will be met with serious efforts to combat the rise in PM's by the banksters.  For this reason I'm not too concerned about further manipulation and take downs.  It's par for the course and if we want default, shit like today has to go down first.  The more it happens, the closer to reset we are.

My take also on this timing of the selloff today is because of what is to come:  > default in the EU > bank stocks tumble huge > credit and liquidity crisis > Benocide press release "needing Treasury assistance to help ease the run" > (QE3).

I am buying phyzz as this goes on - don't care anymore.  I'm at war personally with the shitty institution of mana, banks, and credit, manipulated and massaged to the point of satanic ritual by a bunch of inbred banksters that can't create wealth of their own unless they rig the game and front run a trade.  They need to die.  I certainly won't go away nor change my transfer of shitty paper into phyzz, so bring it. It's personal now.

jaffa's picture

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duckhook's picture

What s+p models are you using

Mec-sick-o's picture

Please elaborate on your model comment: "S + P 500 needs to drop another 50% in my models to shore up enough cash to fund treasury auctions over the next few years."

I do realize this may have happened in Japan long stagflation, but still the stock market is just a trading/pricing machine, not an absolute cash-for-equity exchange.

bob_dabolina's picture

I have written for the better part of the month why gold would sell off hard. The one thing I haven't really talked about is that "operation twist" is dollar positive. 

Here's one post I did on September 15th, which has to do with the largest holders of GLD....tada the banks, banks that need money. I actually heard someone on CNBC finally figure this out today.

Cliff Claven Cheers's picture

Bob your getting smarter every day.

Manthong's picture

You have me looking at things differently now. Thanks (I think).

I alway thought of the metals exchanges as the primary price driver (with bias somehow from TPTB).

Might I ask how you would weight the GLD ETF versus the Exchanges as an influence?

It seems as if there's a chicken and egg thing going on, or are they just mirrors of each other because the big players don't make a move in one space without moving in the other?  

Shameful's picture

Ah the Velour Fog, have to agree.  All I have to ask is who will cover all these deficits, that seemingly stretch infinitely into the future.  Just the Federal deficit of the US is mighty, what 3% of global GDP?  Meaning 3% of all production in the world must be saved and tossed into the maw every year just for the Federal Gov of the US, not to mention Europe or the state govs or private debt.  The cash has to come from somewhere, and if the savings rate in eh world won't match it the CBs will print it.  That's all I'm betting on is the CBs and governments will always do what they have always done.  Like betting on a sunrise, pretty sure it's coming no matte how dark the night may get.

SWRichmond's picture

Like some self-fulfilling mathematical certainty, all of the money has to be positioned where it can be most effectively destroyed.  That place is U.S. Treasuries.  Such is the nature of the "vengeance of the market forces."  Once all of the money is there, the debt bomb goes off and the bodies start hitting the pavement, a giant financial mass-casualty drill.  Triage will be easy: they're all dead, a massive fucking black tag sale.

Mr. Market will have his day.

spiral_eyes's picture

"How long can the debt problem be glossed over before the trader-sheep realize USTs are essentially junk?"

I'm coming to believe the traders won't realise this 'til the shit hits the fan and they're holding toilet paper.

The UST has two significant holes in its armour: dollar debasement, and the US gov'ts finances. Anyone who thinks treasuries are a safe haven right now, whether that's because it's the financial orthodoxy, or cause they're doing shitty analysis is dumb as a sack of rocks.

The bottom could fall out of America very quickly. It might take an oil shock and a joint announcement by OPEC, China, etc that they are going to divest from treasuries for rates on everything from t-bills to 30yrs might go from all-time lows to significantly higher overnight. 

Belarus's picture

China, etc that they are going to divest from treasuries

If China was smart they'd start selling the 2 trillion is surplus (according to their own central bank they need a mere 1 trillion amongst the 3 trillion they hold) before the Federal Reserve loses control of their balance sheet. China will need it, they're gonna have to bail out their entire off balance sheet sovereign debt soon enough--just ask Jim Chanos whom has nailed the story. 

Shameful's picture

The problem for China is where to go?  They can't just dump the dollar and buy gold on that level.  I doubt they could do it without causing that panic if done in large blocks.  Can you imagine the panic if China did a full dump overnight? They basically have to nibble around the edges and try to get set up for what is coming, also having large dollar reserves does give the mass man of china someone to hate, the US who devalued their savings.

spiral_eyes's picture

They hate Britain more for the opium wars.

Shameful's picture

Wait.  It will be wall to wall on their news that the USA cheated them and backed out of their lawful obligations.  That all teh problems facing China are really because of the treacherous nature of the West and the USA in particular.  Will play well into their nationalism, and since the US will be undergoing an implosion at the time lead to interesting geopolitical area.

buck4free's picture

Our only "obligation" to China is to eventually exchange bonds for reserves. We owe them an accounting entry.

tekhneek's picture

I'm pretty sure they've been doubling down on paper (using USD cash reserves) shorts on the COMEX/LBMA and buying physical at the same exact time... albeit a lot of buying happens through tons of different entities. The Chinese government has been openly acquiring gold in ever increasing quantities... Numbers like 1,200%. Wouldn't want to raise any red flags would we?
Just watch. They're backing the PAGE too. All of a sudden, no more physical left... how we gon' keep da' resahve currenceh!? o noz. print!....

It might (this isn't my exact theory, this is "/sarc", gay junkers) be something like this:

  1. Appease the cocksucking American banksters by buying their junk, selling them our good shit for their paper
  2. Sell these excess paper (trade deficit funded/government subsidized) dollars on the COMEX/LBMA to take down the price of PM's with the same cocksucking banksters
  3. Buy the REAL shit at the SAME time
  4. Open entirely new market with 100% physical backed contracts
  5. Start world reserve currency
  6. War



Pancho Villa's picture

The problem for China is where to go?

Well, if they were smart they would use the money to buy capital equipment to build factories within China. This would create jobs in China and in the US. The thing that just blows my mind is that China still has plenty of poor people, which means lots of splendid investment opportunities. And the best thing that their dimwit leaders can find to do with their money is to "invest" in US government debt, which means funding US wars, bridges to nowhere, space stations, and tons of other crap which doesn't benefit anyone in the end. While they have so many fantastic investment opportunities in their own country which would create high paying jobs for Chinese that they totally ignore.

snowball777's picture

If they were smarter, they'd start buying huge interests in companies in America and Europe from which to pilfer secret sauce (at least any they don't already enjoy in China).

What good is capital equipment and factories in China if there's no one to sell to because you stopped buying their shitty bonds?

spiral_eyes's picture

As far as I can see they have already started this process, with great stealth. They hold significant cash reserves, and are accruing a lot of gold. 

Chanos is right about the fact that there is a housing bubble, but I tend to agree with Jim Rogers, who is overall very bullish on the underlying state of China as the productive heartland of the world, and has actually lived in Asia, unlike Chanos.  

Bottom line: China controls a significant chunk of farmland, productive apparatus, supply chains, huge FX reserves, and a massive labour market that hasn't been depleted by Glee and American Idol.

Their entire plan was to outlive the US Treasury bonds they hold. 

Bicycle Repairman's picture

I'll also note that the Chinese are well represented at USA's important technology universities.  Most of the couples I see are white man - Chinese woman.  I've no problem with the racial issue.  Probably a good thing on  many levels.  But USA technology class is getting becoming much more asian.

Rynak's picture

The UST has two significant holes in its armour: dollar debasement, and the US gov'ts finances. Anyone who thinks treasuries are a safe haven right now, whether that's because it's the financial orthodoxy, or cause they're doing shitty analysis is dumb as a sack of rocks

The flaw in your premises is, that you're assuming that the average trader (or bot) spends any time on midterm thinking, let alone longterm thinking. Of course, this counterargument doesn't contradict the "they're doing shitty analysis is dumb as a sack of rocks"..... on the other hand, considering how there is no longterm consistency anymore at all, that may even make sense.... as long as one assumes that the dealers in the casino play fair.

Bottom line: Speculation is for lusers. You may on average make more gains in a real casino, because contrary to the market, those ARE strongly regulated to minimize cheating.

DrunkenMonkey's picture

Exactly right. It's a pity the up-click isn't working on your post.

duckhook's picture

You  just do not understanfd the dynamics of the treasury market.There is only one catagory of buyer of long term treasuries .Primary dealers and other speculators who are going to flip their holdings to the FED..So indirectly the FED is the only buyer.Now what happens to the fed if the speculators succedd in driving the yield much lower towards 2%.The Fed will then be stuck buying 100 billion dollars of very long term paper at unbelievably high prices .That would also mean that the Fed would also be buying billions of MBS at vary low interest rates.These MBS would have a much lower chance of being refinanced then average due to the very low rates and consequently would have a much longer maturity tahn the average MBS.Now these might be ok onvestments if we remain in a 30 year depression.But if the Fed is successful ther FEd is going to   be sitting on a huge losses and will completely handicapped in the future.this move by the FED is among the stupidiest in financail history because it has an extremely high chnace of bakfirng big time

TwelfthVulture's picture

"Who suffered the most, percentage wise, today?  S&P?  Dow?  No, it was PM's and those that support them ... Gold had to close the lowest."


I don't think so.

dow -3.51%

s&p -3.19%

gold -2.54%


Not to mention gold put in the lows somewhere around 10-10:30 this morning.

ZapBranigan's picture






Dead Wrong


Check your closing figures again.

TwelfthVulture's picture

As a long/short market participant, based on the east coast, I go by NY spot.  I don't care what anything does while I'm asleep.  I only go by the open to close (London am fix before market open and pm fix is middle of the day).  But, if you'd prefer not to take my word for it, check Kitco (the gold buggers around here are crazy for it).  NY Spot.


9/22/2011 change -44.3 -2.49%.


I stand by my figures.  And the low of the day was between 10:00 - 10:30 a.m., NOT 3:30 - 4:00 p.m.