Following the Fed's failure to hike interest rates last week, the markets have been unable to gain any traction as the economic data continues to undermine the Fed's conviction of improving economic strength.
But it is not just current economic data that is the problem, but the ongoing economic malaise that has been fostered by an excessively long period of near-zero interest rates. While lowering interest rates in the short-term does support economic activity, excessively low rates for a long-period divert productive capital into malinvestments. This was a point I addressed earlier this week with respect to Jamie Dimon's misguided view of the economy. To wit:
"Of course, for the banks, Wall Street, private equity funds and all variations of capital markets, it has been an "economic nirvana." The massive infusions of capital by the Federal Reserve have flooded the financial system driving asset prices higher and forcing a misallocation of capital into increasingly risky assets. While the U.S. may indeed be "number one" for financial engineering in all forms, it is rooted in a deeply artificial foundation that will eventually disintegrate into the next financial crisis.
But while financial engineering and venture capital may be juicing the profitability and wealth of a vastly small number of the total population, it is not driving the entrepreneurship needed to spark real economic growth. As noted by Gallup:
"The U.S. now ranks not first, not second, not third, but 12th among developed nations in terms of business startup activity. Countries such as Hungary, Denmark, Finland, New Zealand, Sweden, Israel and Italy all have higher startup rates than America does....and this is our single most serious economic problem...for the first time in 35 years, American business deaths now outnumber business births."
The current surge in dis-inflationary pressures is not just due to the recent fall in oil prices, but rather a global epidemic of slowing economic growth. While Janet Yellen addressed this "disinflationary" wave during her post-meeting press conference, the Fed still maintains the illusion of confidence that economic growth will return shortly.
Unfortunately, this has been the Fed's "Unicorn" since 2011 as annual hopes of economic recovery have failed to materialize.
However, it is these ongoing views of optimism that have collided with economic realities. This is the subject of this weekend's reading list as the general confusion of "why it didn't work" has finally come home to roost.
1) Is The Market Holding The Fed Hostage by Matt Egan via CNN Money
“Normally the financial markets dance to the tune of the all-powerful Federal Reserve. But now the tables have turned. The Fed's decision last week to delay raising rates was caused at least in part by turmoil in the financial markets.
It looks like now the Fed is being held captive by the market -- and its temper tantrums.
'It's not just that they're being held hostage. They've actually volunteered to be hostage to the markets,' said David Kelly, chief global strategist at JPMorgan Funds.
All of this is fanning fear that Fed chief Janet Yellen and her colleagues may be trapped at near-zero rates -- the level at which they've been since the height of the financial crisis in 2008.”
Read Also: Investors Should Prepare For Rate Hikes by John Shmuel via National Post
2) Explaining The Market's Reaction To No Rate Hike by Ironman via Political Calculations
“Going into the announcement, the Fed confirming that they would begin hiking short term interest rates as expected would have produced the "zero" result - stock prices would react by essentially being flat, or trading within a relatively narrow range of noise in the absence of other news.
But, if it looked like investors would delay the rate hike to begin in 2015-Q4, stock prices would begin to rise. On the other hand, if it were further delayed to 2016-Q1, they would actually fall.
These specific outcomes are dependent on two main factors: what stock prices are today and what investor's rational expectations are for the change in the year-over-year growth rate of dividends per share that will be realized at discrete points of time in the future. The chart below, which we originally posted a week ago, shows where stock prices were at the end of the previous week, and what stock prices would alternatively be if investors focused exclusively upon either 2015-Q3, 2015-Q4, 2016-Q1 or 2016-Q2 in setting today's stock prices.”
Read Also: The Fed's Wise Decision by Scott Sumner via The Money Illusion
3) Two Bits Of Advice For The Fed by Axel Merkel via Aleph Blog
“Here are two ideas for the Fed, not that they care much about what I think:
1) Stop holding regular press conferences and holding regular meetings. Only meet when a supermajority of your members are calling for a change in policy. Don't announce that you are holding a meeting — perhaps do it via private video conference.
2) Stop trying to support risky asset markets. It is not your job to give equity or corporate bond investors what they want. If you do that, too much liquidity gets injected into the system, creating the financial bubbles of 2000 and 2007-9.”
Read/Watch Also: The Fed Kicks The Can by Robert Johnson via MorningStar
4) The Fed Just Made A Giant Mess by Ron Insana via CNBC
"In explaining why the Fed opted to hold rates steady, Fed Chair Janet Yellen said that policy makers remain concerned about slowing economic growth — especially in China — and the impact on global markets and inflation.
But then, she added that the Fed could still raise rates in before the year was out — as early as October. What?
If slowing global growth and market turbulence was a reason to pause, how likely was it, then, that all of that would be resolved by October?"
Read Also: End The Fed's Guessing Game by David Beckworth via Alt-M
5) Saved By Zero? by Bill Gross via Janus Capital
"Lost in translation however, or perhaps lost in transition to a New Normal financial economy, is the fact that while 0% or .25% or other countries' financially suppressed yields might be appropriate for keeping their economy's head above water, they act as a weight or an economic "sinker" that ultimately lowers economic growth as well.
No Model will lead to this conclusion. Only the Japanese experience of the last several decades seems to give a hint, but the aging demographics of their society is offered as a convenient excuse for their experience. Zero is never mentioned as a complicit accomplice, especially since inflation itself has averaged much the same. But models aside, there should be space in an economic textbook or the minutes of a central bank meeting to acknowledge the destructive influence of 0% interest rates over the intermediate and longer term."
Read Also: FOMC Waiting For Godot by Bob Eisenbeis via Cumberland Advisors
- This Isn't The Start Of A Bear Market by Cam Hui via Humble Student Of The Market
- When An Easy Fed Doesn't Help Stocks by John Hussman via Hussman Funds
- Why The Bear Isn't Over Yet by Meb Faber via Faber Research
- Latest Margin Debt Figures Suggest Bear Market by Jesse Felder via The Felder Report
- Risk Parity Was Not The Problem via AQR
- Where Junk Might Cross The Line by Jeffrey Snider via Alhambra Partners
- Government Shutdown, Debt Limit Q&A by Tyler Durden via Zerohedge
“Successful preservation of capital must overcome the handicaps of socialistic governments, supposedly to help the masses.” – Gerald Loeb
Have a great weekend.