Bank of New York

Last Tuesday we suggested that "Now The Fed Gets Dragged Into LiEborgate" when we observed that "Barclays also cited subsequent research by the New York Federal Reserve staff members that, according to the lender, concluded that banks’ Libor quotes were systematically below their borrowing rates by 39 basis points after the Lehman bankruptcy. “Barclays own submissions for tenors of 1 month to 1 year Libor were higher than actual Barclays trades on 97% of the occasions when Barclays had actual trades during the financial crisis,” the lender said." It seems that unlike the BOE, which had no idea of any Barclays problems and was merely calling up Diamond now and then to make sure the bank's money market risk mechanisms were operational and to chit chat about the weather (as per the BOE at least), the Fed has decided to take the high road and openly admit it was well aware of Barclays' LIBOR "problems." And like that the Senatorial circus just got exciting, while that popping noise is bottles of Bollinger going off at every class action lawsuit legal firm.

Who Are the Biggest Manipulators of All?

Fed Chairman Bernanke should be impeached if he does not restore Fed surveillance over primary dealers immediately.

It should come as no surprise to anyone that major commercial banks manipulate Libor submissions for their own benefit. As Jefferies David Zervos writes this weekend, money-center commercial banks did not want the “truth” of market prices to determine their loan rates. Rather, they wanted an oligopolistically controlled subjective survey rate to be the basis for their lending businesses. When there are only 16 players – a “gentlemen’s agreement” is relatively easy to formulate. That is the way business has been transacted in the broader OTC lending markets for nearly 30 years. The most bizarre thing to come out of the Barclays scandal, Zervos goes on to say, is the attack on the Bank of England and Paul Tucker. Is it really a scandal that central bank officials tried to affect interest rates? Absolutely NOT! That’s what they do for a living. Central bankers try to influence rates directly and indirectly EVERY day. That is their job. Congresses and Parliaments have given central banks monopoly power in the printing of money and the management of interest rate policy. These same law makers did not endow 16 commercial banks with oligopoly power to collude on the rate setting process in their privately created, over the counter, publicly backstopped marketplaces.

Whether gold-bug, permabull, or deflationst; BofAML provides a little something for everyone in the most complete picture guide to 'financial markets since 1800'. A collection of almost 100 charts on asset price returns, correlations, volatility, valuations and many other market and macro factors for the US, UK, Europe, Japan, and Emerging Markets.

“History does not repeat itself but it does rhyme.”
-Mark Twain

Local Governments Which Entered Into Interest Rate Swaps Got Scalped

There is a saying that it is better to remain silent and be thought a fool than to speak out and remove all doubt. Today, the San Fran Fed's John Williams, and by proxy the Federal Reserve in general, spoke out, and once again removed all doubt that they have no idea how modern money and inflation interact. In a speech titled, appropriately enough, "Monetary Policy, Money, and Inflation", essentially made the case that this time is different and that no matter how much printing the Fed engages in, there will be no inflation. To wit: "In a world where the Fed pays interest on bank reserves, traditional theories that tell of a mechanical link between reserves, money supply, and, ultimately, inflation are no longer valid. Over the past four years, the Federal Reserve has more than tripled the monetary base, a key determinant of money supply. Some commentators have sounded an alarm that this massive expansion of the monetary base will inexorably lead to high inflation, à la Friedman.Despite these dire predictions, inflation in the United States has been the dog that didn’t bark." He then proceeds to add some pretty (if completely irrelevant) charts of the money multipliers which as we all know have plummeted and concludes by saying "Recent developments make a compelling case that traditional textbook views of the connections between monetary policy, money, and inflation are outdated and need to be revised." And actually, he is correct: the way most people approach monetary policy is 100% wrong. The problem is that the Fed is the biggest culprit, and while others merely conceive of gibberish in the form of three letter economic theories, which usually has the words Modern, or Revised (and why note Super or Turbo), to make them sound more credible, they ultimately harm nobody. The Fed's power to impair, however, is endless, and as such it bears analyzing just how and why the Fed is absolutely wrong.

Brian Sack, whom we have all grown to love and loathe, and whose mysterious Citadel trade tickets seemingly out of nowhere have prevented financial meltdowns on more than one occasion, may be leaving us next Friday, but that does not mean the Plunge Protection Team will remain headless. Meet Brian's replacement: Simon Potter, who before joining the NY Fed was... assistant professor of economics at UCLA, Johns Hopkins University, New York University and Princeton University and who " has written extensively on nonlinear dynamics over the business cycles. Recent topics have included forecasting the probability of recession, large panel forecasting models, modeling structural change and inflation expectations." So now we have a Keynesian economics professor with an expertise in "modeling inflation expectations" in charge of the S&P. Swell.

As always, Goldman Corzined anyone who listened to its call that an epic QE is coming. Fed did the worst possible outcome for risk- merely extended Twist, just as the credit market predicted it would 3 weeks ago:

• FED SAYS IT IS PREPARED TO TAKE FURTHER ACTION `AS APPROPRIATE
• FED TWIST EXTENSION TO SWAP $267 BLN OF TREASURIES BY END 2012
• FED TO SELL OR REDEEM `EQUAL AMOUNT' DEBT DUE 3 YEARS OR LESS
• FED TO BUY TREASURIES DUE IN 6 TO 30 YEARS AT `CURRENT PACE'
• FED SAYS EMPLOYMENT GROWTH `HAS SLOWED'
• FED SAYS INFLATION HAS DECLINED, REFLECTING OIL
• FED REITERATES ECONOMY `EXPANDING MODERATELY'
• LACKER DISSENTS FROM FOMC DECISION

This means that soon Primary Dealers' entire balance sheets will be filled with the entire inventory of Fed 1-3 year bonds. Market not happy. Full June statement here.

Recently, there has been an intense debate in Europe on the TARGET2 system (Trans-European Automated Real-time Gross Settlement Express Transfer System 2), which is the joint gross clearing system of the eurozone the interpretation of this system and its balances has provoked divergent opinions. Some economists, most prominently Hans-Werner Sinn, have argued that TARGET2 amounts to a bailout system. Others have vehemently denied that. Philipp Bagus adresses the question of whether this 'mysterious' system, that we have been so vociferously discussing, simply amounts to an undercover bailout system for unsustainable living standards in the periphery? Concluding by comparing TARGET2, Eurobonds, and the ESM, he notes that all three 'devices' serve as a bailout system and form a tranfer union but governments prefer to hide the losses on taxpayers as long as possible and prefer the ECB to aliment deficits in the meantime.

"Private Debt Doesn't Matter" Because "Banks Can't Create Money Out of Thin Air"

Folks if you’re buying into the whole QE 3 is coming on June 6^th  argument you’re out of your minds. This is an election year. If the Fed announces QE 3 now, Obama is done. Do you really think this is going to happen when even the Fed’s biggest doves are noting that the consequences of QE outweigh the benefits?

What's $2 Billion for Ben Bernanke's Chosen Son?

Germany's Bundesbank confirmed yesterday that the German gold reserves are held overseas by the Federal Reserve, the Bank of England and the Banque de France. The German parliament, the Bundestag, has been examining the accounting of German gold reserves at the Bundesbank. The parliament's Budget Committee, one of the most powerful committees in the German parliament, had requested a critical report by the Federal Audit Office. "The decision has been unanimous," the paper quoted the Christian Social Union budget expert Herbert Frankenhauser. The newspaper report alleged "account cheating" regarding the German gold reserves. According to a Bild report, the federal auditing office complained of "inadequate diligence of the accounting of the gold reserves, which are stored in some foreign countries. Repatriation of the gold reserves is encouraged.” The Bundesbank confirmed that it, like many central banks, keeps part of its reserves in vaults at foreign central banks and said some of its gold is held at the Federal Reserve Bank of New York, the Banque de France and the Bank of England. It declined to say how much gold in total is held overseas or how much gold is stored with the Federal Reserve, Bank of England and Banque de France. The Bundesbank statement said it had complete confidence in the integrity of the central banks where the gold is held. "From these central banks, the German Bundesbank annually gets confirmation of the gold holdings in troy ounces as a basis for its accounting," the Bundesbank’s statement said.

As we suggested yesterday, the Treasury Borrowing Advisory Committee (basically Goldman Sachs and JP Morgan, and the rest of the buy and sell side) did indeed come out with a unanimous decision, having decided to recommend FRNs. This simply means that Wall Street is either desperate to telegraph a surge in short-term rates, or, even worse, if actually anticipating a surge in short-term rates and is doing all it can to hedge before it happens. Nonetheless, "system limitations would prevent any possible issuance of FRNs until 2013" while those wondering what the reference rate will be will have no answer for a while: "In discussing the best index, the member recommendations were divided, with 4 members voting for Treasury bills, 3 members voting for a general collateral rate, and 6 members voting for the federal funds effective rate." Finally, anyone wondering why the market acted odd yesterday, i.e., experienced a freak sell off in the afternoon, the reason is that Brian Sack was also present at the TBAC meeting, and away from his trusty BBG terminal.