The Departing Bernanke on Macro-Prudential

By: Doug Noland | Fri, Jan 10, 2014
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If the beginning is any indication, 2014 seems destined to be an unsettled year - the markets, the data, the Fed and U.S. and global economies.

Q&A from the National Association of Business Economics conference, Philadelphia, January 3, 2014: William Nordhaus, Yale University economics professor and chairman of the Federal Reserve Bank of Boston: "I asked my students if they had a question for [Bernanke]. And there were a number of them, one which I won't ask is 'what about bitcoin?' - which I know he knows about. But I thought a really interesting one was this: 'If you knew in 2006 what you know now, what step or steps would you have taken then to prevent or ameliorate the financial crisis and subsequent severe downturn?'"

Bernanke: "Well that's a really unfair question. I mean, the reality is that everybody - every policymaker has to make - this is the nature of policy - it has to be made in very, very foggy conditions with very imperfect information - a lot of uncertainty. So, in order to do anything, I think I would not only have to know everything in advance, everyone else would have to know I knew everything in advance. In other words, if I went out and started saying - all of the sudden I'm arbitrarily raising capital requirements by five percentage points, the banks would say 'What!' and it would be very difficult to get Congress and the other regulators and so on and so on to agree. I mean I think the crisis was very complex, involved many many issues. One of the concerns, I want to respond indirectly to a point..., the usefulness of macro-prudential-type measures. I think one of the practical questions is, even if you think you've got macro-prudential measures that work, can you put them in place quickly enough and responsibly enough, preemptively enough. And I think that's one of the things - the Bank of England is working to try to find mechanisms for more rapid response, so to speak. And I think that's one of the real challenges. For example, before the crisis the Fed put in new guidance on commercial real estate (CRE) for banks, which strengthened the criteria for risk-management - and said you shouldn't have too much CRE on your balance sheet, etc. etc. That process took more than two years of negotiations and discussions - and sending it out to the banks, and the banks have time to implement. In order to make this work - the macro-prudential things to work - you're going to have to have a more nimble system. And I think this is a big part of this. So the answer to the question that Bill raised is that, I'm sure there were some things that could have been done but unless everyone collectively knew what was going to happen and was willing to work together cooperatively to take those necessary steps, it's not obvious that you could have avoided it."

To begin, accolades to the unknown student who provided an excellent - and clearly really fair - question to our departing Fed chairman. And it's curious that such a basic and fundamental issue - what has the Federal Reserve learned from the previous boom/bust cycle(s) - goes unasked by journalists and market professionals. Bernanke was clearly unprepared - I'll suggest taken aback.

I want to avoid the histrionics, but I was stunned by Bernanke's surprisingly candid comments. After all, it's been Bernanke Fed policy doctrine to aggressively exploit rates and its balance sheet for stimulus purposes, while asserting that so-called macro-prudential (bank regulation, etc.) measures would be available to address fledgling financial excess.

I've never bought into either the practicality or efficacy of "macro-prudential" measures, particularly when it comes to securities market Bubbles. And here we have the Fed chairman on his way out the door admitting their complete lack of effectiveness. How can a central bank engaged in a protracted experiment in inflating its balance sheet ("money" printing) find itself today without a well-crafted framework for responding to market excesses? How can an academic that has been professing aggressive central bank "money" printing for many years not be able to articulate how policymakers should respond to destabilizing speculation and market Bubbles?

Virtually everyone is these days content to give our Federal Reserve policymakers the benefit of the doubt. A great deal of energy is expended to support the view that they actually know what they're doing - that their policy doctrine is grounded in sound judgment, experience and history. It was Albert Einstein that said insanity "was doing the same thing over and over again and expecting different results."

Truth be told, today's doctrine is based on little more than the notion of inflationism - just inflate money, inflate THE price level, stimulate and inflate the system out of debt problems. Bubbles are to be ignored and their consequences simply inflated away. It's just painful to watch something so significant; grounded in flawed analysis, historical revisionism and dangerous dogma; and destined to fail at great cost. Bernanke joined the Fed back in 2002 proclaiming the wonders of the government printing press and "helicopter money." The Fed nurtured a historic Credit inflation that burst in 2008. Yet there has clearly been no effort to learn from previous mistakes, not while playing a confidence game and embarking on historic monetary inflation.

With the Bernanke Fed's objective of inflating asset prices, the lack of willingness to examine the dynamics behind previous boom and bust cycles is not difficult to explain. Still, it is stunning that the Fed has no framework in place to deal with now conspicuous signs of financial excess. The Fed may have measures available to respond to excessive bank Credit. But today's lending and speculating excesses, with attendant risk perception and market pricing distortions, are chiefly in the domain of overheated securities markets. Moreover, there's the recent emphasis on "forward guidance" that the Fed hopes will place a low ceiling on market yields. The Fed today is precluded from even broaching the idea of a tiny 25 basis point rate increase to throw a little cold water on market speculation. At this point, all bloody market hell would break loose.

I get the sense that our outgoing Fed chairman might be uncomfortable with how things have played out. Perhaps he recognizes that the 2013 interplay between the Fed and market Bubbles ensured an even bigger mess was left for the Yellen Federal Reserve. For a central bank that analyzes QE in terms of basis point changes in market yields and the impact on "the term structure of interest rates," my guess is that the stock market melt-up caught Bernanke by complete surprise. The Fed's Trillion of new "money" fueled an equities (and corporate debt) Bubble, while Treasury bond and MBS yields moved higher. This is not what Fed QE models would have forecast. To be sure, predicting the reaction of unstable securities markets to massive liquidity injections and other policy measures has become a particularly risky business - a business that should be outside the jurisdiction of our central bank.

Justin Fox posted an interesting blog this week at Harvard Business Review (HBR): "What's That You're Calling a Bubble?" "The bubble has become an inescapable element of modern discourse. Every day somebody is proclaiming a new one, arguing that there isn't one, proposing ways to prevent one or complaining about how hard they are to prevent. What wielders of the term seldom do, though, is say exactly what they mean by it... [University of Chicago's Eugene] Fama is convinced that financial Bubbles don't exist, and until the dot-com era he was able to keep most of his colleagues in academic finance from even using the word 'bubble'..."

The world would be in a much safer place these days if academics and policymakers hadn't wasted decades claiming Bubbles don't exist or that they can't be recognized or that they can't be dealt with. They do, they can and they must be. After all, Bubbles are a reality of life; the go back about as far as Credit.

And I'm guilty of using the word "Bubble" more than anyone for longer than anyone - and for good reason. In our unique global backdrop of unfettered "money" and Credit, it was incumbent upon global central bankers to constrain the propensity for contemporary finance to inflate Credit, asset and speculative Bubbles. Instead, the Fed led the charge of "activist" (inflationist) policies that only worked to ensure a protracted period of unprecedented "money," Credit and asset price inflation. As ridiculous as it sounds these days, it is indeed "Bubbles, Bubbles everywhere" - a few have burst, some are faltering and others are still rapidly inflating.

Bubble Analysis has reached a "fascinating" juncture. As someone now well into his 15th year of chronicling history's greatest Credit Bubble on a weekly basis, I see overwhelming support for my global macro thesis. At the same time, inflating stock prices ensure scorn is lavished upon anyone warning of Bubble excess. It means markets have again reached the phase of the cycle where conspicuous Bubble excess is disregarded in favor of discrediting Bubble analysis.

The HBR's Justin Fox ended his "What's That You're Calling a Bubble?" blog with "If you've got a better bubble definition, let's hear it." I do, but with the major caveat that various forms of Bubbles and complex Bubble analysis can't be boiled down to a couple sentences. Nonetheless, here's my simplified definition: "A Bubble is a self-reinforcing - yet inevitably unsustainable - inflation (price and/or quantity) fueled by monetary expansion coupled with significant destabilizing market misperceptions and distortions."

To add a little analytical depth to my definition, it's important to note that monetary inflation is generally an expansion of Credit. Bubbles are generally fueled by an overly accommodative monetary backdrop, although Credit excess might very well be confined to a particular sector (i.e. telecom debt 1999). This Credit could be governmental, corporate, household or market-based. Most likely, the monetary expansion would be associated with rapid growth in financial sector balance sheets and risk intermediation. Monetary excess can be directed to specific asset markets, such as mortgage (MBS) or securities Credit (i.e. repo and "carry trades"). Leveraged speculation typically plays a critical role. Over recent years, however, we've witnessed how rapid central bank "money" creation (balance sheet expansion) can also become integral to inflating asset Bubbles.

I won't delve deeply into Bubble analysis here, but some meat to the "significant destabilizing market misperceptions and distortions" aspect of Bubbles is critical in today's environment. Major prolonged Bubbles will invariably have a dominant government component. For one, the assurance of counter-cyclical fiscal policies is generally pro-risk-taking and pro-Bubble. "Keynesian" stimulus works for the most part to stabilize incomes, spending, and corporate profits, in the process reshaping risk perceptions and risk-taking throughout the markets and real economy. Yet, contemporary central bankers, with their unlimited supply of electronic "money" and penchant for manipulating interest rates, are the nucleus for epic distortions to perceived financial, market and economic risks.

The widely-accepted attitude that "Washington" (Fed, Treasury and Congress) would never tolerate a housing bust was fundamental to the mispricing and over-issuance of Credit throughout the mortgage finance Bubble. The implied federal banking of GSE securities was instrumental. Currently, the perception that the "activist" Federal Reserve will not tolerate a crisis or economic downturn is fundamental to the ongoing U.S. securities Bubble. The perception that global central bankers will in concert "do whatever it takes" has become an indispensable force behind the recent heightened global inflation of securities, asset prices and speculative Bubbles. And the more colossal Bubbles inflate, the more emboldened the marketplace becomes to the notion that central bankers view global financial markets as "too big to fail."

Above I mentioned the "confidence game" aspect of financial Bubbles. Central bankers and some market pundits have asserted that experimental QE/"money" printing actually differs little from traditional monetary policy tools. As a guest host this week on CNBC, former Fed economist and Bank of England central banker Adam Posen went so far as to assert that legendary Federal Reserve Chairman William ("take away the punch bowl just as the party gets going") McChesney Martin employed similar measures on his watch. As someone that disdains historical revisionism, not to mention the inflationists' tendency to play loose with the facts, I went back and checked some figures.

By all accounts, William McChesney Martin was one of America's greatest central bankers - disciplined, independent and prudent. He was definitely no inflationist. Martin actually well-understood the insidious nature of inflation and, in the words of the New York Times, he "detested" it. He headed the Fed from 1951 to January 1970. In the late-sixties he raised rates to fight rising inflation in the face of intense political pressure. It is worth noting that in the twenty-year period 1950 through 1969, the Fed's balance sheet increased $32.5bn, or 67%, to $80.7bn. Over this same period, GDP jumped 274%. The Fed's balance sheet was 15% of GDP at the beginning of Martin's term (inflated from WWII monetization) and was down to 8% by its conclusion.

Over the most recent twenty-year period, Federal Reserve assets have increased $3.576 TN, or 844%. Over this period, GDP expanded 151%. Examining just the past 10 years, Fed assets inflated $3.03 Trillion, or 400%, compared to 52% growth in GDP. Fed assets remained in a range of between 6% and 7% of GDP from 1980 to 2007. They ended 2013 at about 24% of GDP and were climbing rapidly.

 


For the Week:

The S&P500 increased 0.6% (down 0.3% y-t-d), while the Dow slipped 0.2% (down 0.8%). The Utilities surged 2.5% (up 0.5%). The Banks jumped 1.9% (up 2.2%), while the Broker/Dealers slipped 0.2% (unchanged). The Morgan Stanley Cyclicals were little changed (down 0.6%), while the Transports rallied 1.9% (up 0.9%). The S&P 400 Midcaps gained 1.2% (up 0.5%), and the small cap Russell 2000 rose 0.7% (up 0.1%). The Nasdaq100 increased 0.7% (down 0.8%), and the Morgan Stanley High Tech index gained 0.9% (down 0.5%). The Semiconductors rose 1.3% (down 0.3%). The Biotechs surged 6.5% (up 6.5%). With bullion gaining $10, the HUI gold index was up 0.3% (up 3.2%).

One-month Treasury bill rates ended the week at one basis point, and three-month rates closed at 4 bps. Two-year government yields slipped 3 bps to 0.37% (down one bp y-t-d). Five-year T-note yields were down 11 bps to 1.62% (down 11bps). Ten-year yields dropped 14 bps to 2.86% (down 17bps). Long bond yields fell 12 bps to 3.80% (down 17bps). Benchmark Fannie MBS yields dropped 15 bps to 3.46% (down 15bps). The spread between benchmark MBS and 10-year Treasury yields narrowed one to 60 bps. The implied yield on December 2014 eurodollar futures declined 2 bps to 0.425%. The two-year dollar swap spread increased one to 12 bps, and the 10-year swap spread gained 2 to 9 bps. Corporate bond spreads were mostly somewhat wider. An index of investment grade bond risk increased one to 64 bps. An index of junk bond risk was little changed at 310 bps. An index of emerging market (EM) debt risk jumped 10 bps to 318 bps.

Debt issuance came roaring back. Investment-grade issuers included Icahn Enterprises $3.65bn, GE Capital $3.0bn, Toyota Motor Credit $1.8bn, American Tower $2.0bn, Fedex $2.0bn, Berkshire Hathaway $1.15bn, Union Pacific $1.0bn, Rowan Companies $800 million, Commonwealth Edison $650 million, Private Export Funding $400 million, Autozone $400 million, Arizona Public Service $250 million and Sandalwood $130 million.

Junk bond funds saw inflows of $642 million (from Lipper). Junk issuers included Lamar Media $510 million, Parker Drilling $360 million, Sabra Health Care $350 million, Summit Materials $260 million, MDC Holdings $250 million and Hovnanian Enterprises $150 million.

The long list of international dollar debt issuers included European Investment Bank $4.5bn, International Bank of Reconstruction & Development $4.0bn, Mondelez International $3.0bn, Total Capital International $2.5bn, Mexico $4.0bn, Indonesia $4.0bn, Intesa Sanpaolo $2.5bn, Sumitomo Mitsui $2.25bn, Australia & New Zealand Bank $1.8bn, Kommunalbanken $1.75bn, Rabobank Nederland $1.75bn, Export-Import Bank of Korea $1.5bn, Philippines $1.5bn, Sri Lanka $1.0bn, Inter-American Development Bank $1.0bn, Kaisa Group $800 million, EDP Finance $750 million, Dexia Credit $300 million, Export Development Canada $250 million, Export Lease Eight $250 million, Barclays $200 million and Wuzhou International $200 million.

Ten-year Portuguese yields sank 28 bps to 5.37% (down 76bps y-t-d). Italian 10-yr yields were unchanged at 3.92% (down 21bps). Spain's 10-year yields fell 6 bps to 3.81% (down 34bps). German bund yields dropped 10 bps to 1.84% (down 9bps). French yields declined 5 bps to 2.50% (down 5bps). The French to German 10-year bond spread widened 5 to an almost 6-month high 66 bps. Greek 10-year note yields were down 48 bps to 7.71% (down 71bps). U.K. 10-year gilt yields fell 15 bps to 2.87% (down 15bps).

Japan's Nikkei equities index fell 2.3% (up 2.3% y-t-d). Japanese 10-year "JGB" yields dropped 4 bps to 0.70% (down 4bps). The German DAX equities index increased 0.4% (down 0.8% y-t-d). Spain's IBEX 35 equities index surged 5.0% (up 3.8%). Italy's FTSE MIB index jumped 2.4% (up 3.2%). Emerging markets were mostly under pressure. Brazil's Bovespa index dropped 2.5% (down 3.5%), while Mexico's Bolsa rallied 0.9% (down 0.6%). South Korea's Kospi index slipped 0.4% (down 3.6%). India's Sensex equities index declined 0.5% (down 2.0%). China's Shanghai Exchange sank 3.4% (down 4.9%). Turkey's Borsa Istanbul National 100 index gained 0.9% (down 1.8%)

Freddie Mac 30-year fixed mortgage rates slipped 2 bps to 4.51% (up 111bps y-o-y). Fifteen-year fixed rates added one basis point to 3.56% (up 90bps). One-year ARM rates were unchanged at 2.56% (down 4bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up 2 bps to 4.71 (up 68bps).

Federal Reserve Credit expanded $1.2bn to $3.983 TN. Over the past year, Fed Credit was up $1.077 TN, or 37.1%.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg - were up $634bn y-o-y, or 5.8%, to $11.545 TN. Over two years, reserves were $1.353 TN higher for 13% growth.

M2 (narrow) "money" supply fell $10.2bn to $10.990 TN. "Narrow money" expanded 4.9% ($514bn) over the past year. For the week, Currency increased $3.4bn. Total Checkable Deposits declined $5.1bn, and Savings Deposits fell $6.2bn. Small Time Deposits dropped $2.9bn. Retail Money Funds added $0.6bn.

Money market fund assets declined $4.2bn to $2.715 TN. Money Fund assets were little changed from a year ago.

Total Commercial Paper gained $13.6bn to $1.059 TN. CP was down $46bn over the past year, or 4.1%.

Currency Watch:

January 10 - Bloomberg (Cynthia Kim): "South Korean authorities will take steps against speculative movements or 'herd behavior' in the currency market, Vice Finance Minister Choo Kyung Ho says... South Korea will try to stabilize markets regarding weaker yen... South Korea to act pre-emptively if needed to stabilize market..."

The U.S. dollar index slipped 0.2% to 80.66 (up 0.8% y-t-d). For the week on the upside, the South African rand increased 1.1%, the Mexican peso 1.1%, the Brazilian real 0.8%, the Swedish krona 0.6%, the euro 0.6%, the Danish krone 0.6%, the Australian dollar 0.6% the British pound 0.4%, the New Zealand dollar 0.4%, the Swiss franc 0.3%, the Singapore dollar 0.2%, and the Norwegian krone 0.2%. For the week on the downside, the Canadian dollar declined 2.4%, the South Korean won 0.6%, and the Taiwanese dollar 0.4%.

Commodities Watch:

The CRB index slipped 0.4% this week (down 1.7% y-t-d). The Goldman Sachs Commodities Index declined 0.7% (down 3.5%). Spot Gold gained 0.9% to $1,248 (up 3.5%). March Silver was little changed at $20.22 (up 4.4%). February Crude fell $1.24 to $92.72 (down 5.8%). February Gasoline recovered 0.8% (down 4.2%), while February Natural Gas was hit for 5.8% (down 4.2%). March Copper declined 0.4% (down 1.6%). March Wheat sank 6.1% (down 6.0%), the low since July 2010. March Corn jumped 2.2% (up 2.5%).

U.S. Fixed Income Bubble Watch:

January 7 - Bloomberg (Lisa Abramowicz): "Bond investors' purchases of derivatives averaged the most in five years in 2013 as they sought ways to both amplify bets and hedge against rising yields as the Federal Reserve slows its unprecedented stimulus. The net amount of trades on the three most-active credit-default swap indexes tied to investment-grade companies jumped to a weekly average of $117.3 billion in 2013, the highest in data going back to 2008... Bondholders are walking a tightrope as the Fed slows $85 billion of monthly asset purchases, seeking protection from losses when borrowing-cost benchmarks rise while also vying for returns tied to an accelerating economic recovery. That's guiding investors from retirees to wealthy individuals toward a type of wager, once primarily limited to hedge funds and banks, that tends to both magnify gains and accelerate declines. 'You're going to see more as people try to become more esoteric or exotic in their fixed-income investments,' Peter Tchir, founder of... hedge-fund adviser TF Market Advisors, said... 'They're realizing that CDS or swaps aren't the end of the world and that they might be the best way to get the exposure.'"

January 9 - Wall Street Journal (Matt Wirz): "A roaring revival in the market for loans to lower-rated companies is boosting the fortunes of the giant financial firms that arrange and package the loans. Wall Street revenue from corporate debt underwriting surged 15% to a record $41 billion in 2013, data tracker Dealogic said. The largest gain from a year ago came in so-called leveraged loans, a business that was hit hard during the financial crisis. Issuance hit $605 billion in 2013, eclipsing the previous record of $535 billion in 2007, according to Standard & Poor's LCD... Observers say many of the factors that led to the leveraged-loan market's recovery -- steady economic growth, rising interest rates and strong investor demand for income-producing investments -- remain in play... 'The big story of the year was the amount of money that came into loans,' says Jim Casey, global co-head of debt capital markets at J.P. Morgan..."

Federal Reserve Watch:

January 10 - Bloomberg (Cheyenne Hopkins and Craig Torres): "Stanley Fischer, former head of the Bank of Israel, will be nominated to serve as vice chairman of the Federal Reserve, the Obama administration said. Fischer, 70, would replace Janet Yellen, who was approved by the Senate this week for the chairmanship of the U.S. central bank. Lael Brainard, formerly the U.S. Treasury Department's top international official, will fill an empty seat on the board, and Jerome Powell is being nominated for a second term... Obama is reshaping the Fed board as the central bank tackles some of the biggest challenges in its 100-year history. The Fed's balance sheet stands at $4.03 trillion as it buys longer-term debt to keep interest rates low to encourage consumer spending and capital investment."

January 8 - Bloomberg (Joshua Zumbrun and Craig Torres): "Federal Reserve officials saw diminishing economic benefits from their bond-buying program and voiced concern about future risks to financial stability during their last meeting... 'A majority of participants judged that the marginal efficacy of purchases was likely declining as purchases continue,' the record of the Federal Open Market Committee's Dec. 17-18 meeting showed. Participants also were 'concerned about the marginal cost of additional asset purchases arising from risks to financial stability,' citing the potential for 'excessive risk-taking in the financial sector.' Policy makers will gather Jan. 28-29 to consider the next step in their strategy of gradually reducing the pace of bond buying as the economy strengthens. The minutes didn't describe a set schedule for reductions, although 'a few' officials mentioned the need for a 'more deterministic path.'"

January 8 - Washington Post (Neil Irwin and Ylan Q. Mui): "Three weeks ago, the Federal Reserve announced it would begin slowing its bond-buying, beginning the long process of tapering its program of quantitative easing. Now we know more about how the internal debate over the taper caper played out, after the release of minutes of the Federal Open Market Committee's meeting. Here are five points that stand out from the document. They weren't really sure how the taper would work. The minutes confirm what Chairman Ben Bernanke said in his press conference: The decision to taper wasn't a close call. 'Most members' of the FOMC agreed that December was the right time to start... Some also worried that markets would panic again once the Fed actually scaled back the program, as they did in June when Bernanke first signaled that tapering of bond purchases was imminent. 'As a consequence, many members judged that the Committee should proceed cautiously in taking its first action ... and indicate that further reductions would be undertaken in measured steps,' the minutes say."

January 4 - Reuters (Jonathan Spicer): "The Federal Reserve could well consider cutting its bond-buying by more than a $10 billion monthly increment in the future, Philadelphia Fed President Charles Plosser said on Saturday, floating $25 billion as a hypothetical amount... 'It's good that we did it,' Plosser... told reporters... But 'if the economy continues to grow and strengthen I think that there's no reason why we shouldn't want to consider speeding the process up if we can,' he said. 'I have no problem with gradually unwinding it, but my preference would be to move a little quicker and end it sooner rather than later,' Plosser added."

January 4 - Bloomberg (Steve Matthews and Jeff Kearns): "Federal Reserve Bank of Philadelphia President Charles Plosser, an opponent of bond purchases by the Fed, said policy makers shouldn't try to make up for a permanent loss in potential growth caused by the financial crisis. 'Efforts to use monetary policy to offset such permanent shocks and to close what appears to be a gap will likely be ineffective and perhaps even counterproductive,' Plosser said... 'The real economy must ultimately adjust to such permanent shocks,' he said... 'Monetary policy cannot offset the costs or the necessity of such real adjustments.'"

January 9 - Bloomberg (Joshua Zumbrun): "Federal Reserve Bank of Kansas City President Esther George, who dissented against unprecedented stimulus in seven policy meetings last year, voiced concern the Fed may keep the main interest rate too low for too long. 'I fear we may wait too long to move rates,' George said... While endorsing the statement, George said... she was uncomfortable with the interest-rate pledge. 'I'm very cautious about this idea of making future statements, which we refer to as forward guidance, because I think we do have to see how the economy unfolds and we cannot wait too long to make decisions.'"

January 8 - Wall Street Journal (Michael S. Derby): "Federal Reserve Bank of Kansas City leader Esther George, who spent last year arguing that it was time for the central bank to pull back on its easy money policies, praised... the Fed's decision last month to finally do so... Referring to the slow down in the pace of bond buying, Ms. George said 'this is a modest step,' adding 'it is an important part of the process of moving toward a more-normal interest rate environment, which I view not only as essential but also as a positive development for the economy and the banking industry.' Ms. George added that even as the Fed cuts its bond buying effort, 'monetary policy is likely to remain highly accommodative for some time with additional (albeit reduced) asset purchases under the current program,' as well as an extended period of very low short term interest rates. That said, 'I remain concerned about the potential costs and consequences of these untested policies,' Ms. George said."

January 3 - Wall Street Journal (Michael S. Derby): "On a day where Federal Reserve Chairman Ben Bernanke offered perhaps his last major defense of the central bank's aggressive actions to help the nation during the worst economic storm in generations, two skeptics of those policies turned their attention to the future of monetary policy. The officials weighed in on Friday were Philadelphia Fed President Charles Plosser and Richmond Fed leader Jeffrey Lacker. Both men have long been at odds with the easy-money policies pursued by the central bank over recent years, mostly notably its bond-buying stimulus program. Mr. Plosser used his remarks... ahead of Mr. Bernanke's to express concern that an aggressive move to ease policy may require a forceful tightening of financial conditions in the future, perhaps sooner than many would like... The Fed would like to raise rates 'gradually' but added 'it doesn't always work that way,' Mr. Plosser warned. 'How fast will we have to move interest rates up...we don't know the answer to that," Mr. Plosser said. He warned that the Fed may have to be 'aggressive' when it raises short-term rates from their current near-zero percent levels, and he argued in favor of humility on the part of policymakers: 'People like to think the Fed has all this great control over interest rates, but the market does its own thing.' ...Mr. Lacker told reporters... 'I can see a case for picking up pace of tapering' the size of bond purchases, in a reference to slowing down the monthly rate of buying. 'The door has to be open to us responding to the data by either pausing or going faster. The data would to be much weaker, on a sustained basis, to want to pause,' he said."

January 10 - MarketNews International (Brai Odion-Esene): "The Federal Reserve needs to amplify its already-aggressive measures to support the economy, in order to ensure a speedier resolution to the nation's jobs crisis and a faster rebound to the central bank's inflation target, Minneapolis Fed President Narayana Kocherlakota said... Kocherlakota placed himself in the camp of those Fed officials who believe the policymaking Federal Open Market Committee should take additional steps to ensure a faster recovery. He is a voter on the FOMC this year... 'By easing monetary policy relative to its current stance, the FOMC could facilitate a more rapid fall in unemployment and more rapid return to 2% inflation,' Kocherlakota said, arguing that 'the Committee could do better with respect to both of its congressionally mandated objectives by adopting a more accommodative monetary policy stance.'"

Central Bank Watch:

January 10 - Bloomberg (Jim Brunsden): "Lenders are poised to win concessions from central bank chiefs and global regulators over a debt limit they criticized as a blunt instrument that would penalize low-risk activities and curtail lending. A revised leverage-ratio plan is set to be laxer than a draft published last year by the Basel Committee on Banking Supervision, said a person familiar... Leverage ratios are designed to curb banks' reliance on debt by setting a minimum standard for how much capital they must hold as a percentage of all assets on their books. A quarter of large global lenders would have failed to meet the draft version of the leverage limit had it been in force at the end of 2012..."

U.S. Bubble Economy Watch:

January 10 - Dow Jones News (Victoria McGrane): "The Federal Reserve sent about $77.7 billion in profits to the Treasury Department in 2013, the result of gains reaped from its unconventional efforts to spur economic growth. Last year, the Fed sent a record $88.4 billion to Treasury coffers. The Fed's portfolio of securities and other assets has swelled to more than $4 trillion since the financial crisis... Those efforts are now generating large profits as the central bank earns interest on the assets."

January 10 - Bloomberg (Shobhana Chandra): "Employment rose in December at the slowest pace in almost three years, in part because bad weather blanketed the U.S., ending months of improving job growth... The 74,000 gain in payrolls was the weakest since January 2011 and smaller than the most-pessimistic projection in a Bloomberg survey... The unemployment rate declined to 6.7%, the lowest since October 2008, as more people left the labor force."

January 7 - Bloomberg (Hui-yong Yu): "U.S. apartment rents probably will rise 3.3% in 2014, little changed from last year, as the most construction in a decade boosts vacancies and limits landlords' ability to increase rates more, Reis Inc. said. The 41,683 apartment units completed in the fourth quarter were the highest since late 2003... Development rose from 29,560 units a year earlier and 37,546 in the third quarter."

Global Bubble Watch:

January 6 - Bloomberg (Anchalee Worrachate): "The world's biggest economies will need to refinance $7.43 trillion of sovereign debt in 2014 as bond yields begin to climb from record lows, threatening to raise borrowing costs while nations struggle to bring down elevated budget deficits. The amount of bills, notes and bonds coming due for the Group of Seven nations plus Brazil, Russia, India and China is little changed from 2013... At $3.1 trillion, representing a 6% increase, the U.S. faces the largest tab. Russia, Japan and Germany will see refinancing needs drop, while those of Italy, France, Britain, China and India increase. While budget deficits in developed nations have fallen to 4.1% of their economies from a peak of 7.8% in 2009, they remain about double the average in the decade before the credit crisis began."

January 9 - Bloomberg (Ben Moshinsky): "Investment funds that manage more than $100 billion in assets may be labeled too big to fail, global regulators said, as they seek to expand financial safeguards beyond banks and insurers. Hedge funds with trading activities exceeding a set value of $400 billion to $600 billion would also be assessed by national authorities to gauge whether they need extra rules because their collapse could spark a crisis, the Financial Stability Board said... The report addresses 'the risks to global financial stability and economic stability posed by the disorderly failure of financial institutions other than banks and insurers,' Mark Carney, Bank of England governor and FSB chairman, said... 'They are integral to solving the problem of financial institutions that are too big to fail.'"

January 8 - Bloomberg (Kelly Bit): "Hedge funds trailed the Standard & Poor's 500 Index for the fifth straight year as U.S. markets rallied to record levels. Hedge funds returned an average of 7.4% in 2013, after a gain of less than 0.1% in December. The Bloomberg Hedge Funds Aggregate Index is down 1.8% from its July 2007 peak. The index is weighted by market capitalization and tracks 2,257 funds, 1,264 of which have reported returns for December. Funds lagged behind the S&P 500 by 23 percentage points last year, the most since 2005..."

January 10 - Associated Press: "Automaker Daimler AG says its Mercedes-Benz luxury cars had a record year last year, boosted by new models and stronger sales in its biggest market, the United States. But the... carmaker saw a sales decline in its home market, Germany. Mercedes-Benz sold 1.462 million cars last year worldwide, an increase of 10.7%. Sales in the U.S., the company's largest single market, grew 14% to 312,534. Yet Germany was off 2.2% for the year."

January 10 - Bloomberg (Neil Callanan): "More than 500 homes in London sold for over 5 million pounds ($8.2 million) last year, a 24% increase on a year earlier... Investors bought 5.2 billion pounds of super-prime homes in the U.K. capital, Savills Plc said..."

EM Bubble Watch:

January 8 - Wall Street Journal (Anjani Trivedi, Chiara Albanese and Chris Dieterich): "Investors are bailing out of emerging markets from Turkey and Brazil to Thailand and Indonesia, extending a selloff that began last year, amid concerns about faltering economies and political unrest... The bruising start to the year underscores the shift in investor sentiment. In past years, money managers of all stripes, hungry for yields and willing to take some risks, scrambled to boost exposure to emerging markets... Now, investors also are factoring in heightened risks of political instability. Protests in Turkey, Brazil and, more recently, Thailand, already have unsettled money managers. Many investors are bracing for more uncertainty ahead of elections this year in Brazil, Indonesia, India, Turkey and South Africa. 'What we're witnessing is hope being squeezed out of these markets,' said Michael Shaoul, chief executive of Marketfield Asset Management, which oversees $19 billion. 'The relative underperformance has become really, really painful.'"

January 10 - Bloomberg (David Biller): "Brazil's consumer prices in December rose the most in more than 10 years, as the central bank continues to raise rates to tame above-target inflation. Swap rates rose. Inflation in December as measured by the benchmark IPCA index accelerated to 0.92% from 0.54% in November... Annual inflation quickened to 5.91% from 5.77%, a faster pace than inflation in 2012."

January 8 - Bloomberg (Blake Schmidt): "Brazil's development bank is failing to follow through on a pledge to scale back support for the country's 'national champions.' Less than nine months after BNDES president Luciano Coutinho said the lender would stop backing companies whose global ambitions had been historically supported by Brazil, the lender agreed to a debt swap on Jan. 3 that lets beefmaker Marfrig Alimentos SA skip interest payments on 2.15 billion reais ($907 million) of bonds for a year. While Finance Minister Guido Mantega said in November that BNDES will cut lending by 20% this year, bondholders have become increasingly alarmed the government's largess is causing the quality of BNDES's loans to deteriorate."

January 6 - Bloomberg (Matthew Malinowski): "Brazil economists cut their 2014 economic growth forecast below 2% for the first time... Brazil's gross domestic product will expand 1.95% this year, down from the previous week's forecast of 2% and from an estimate of 3.8% last February..."

Turkey Watch:

January 6 - Bloomberg (Mehul Srivastava and Benjamin Harvey): "A tiny fishing village called Garipce holds a clue to understanding the largest corruption scandal in Turkish history. An hour's drive north of Istanbul, two giant concrete towers straddle the Bosporus, one foot in Asia, the other in Europe. By 2015, a $2.5 billion suspension bridge will hang between the 322 meter (1,056 feet)-high towers. Nearby, a swath of forest the size of Manhattan is being readied for a $14 billion airport. The projects -- the biggest of their kind in the world -- epitomize a decade-long, $200 billion construction plan undertaken by Prime Minister Recep Tayyip Erdogan that has projected Turkey's ambitions as a regional power and enriched his allies in the process. After a wave of arrests that targeted those new elites, the building sites now risk becoming emblems of the corruption and largesse that prosecutors say has permeated Erdogan's designs for a new Turkey. Executives from companies building the bridge and airport are among the 100 people who've been arrested, questioned or sought by prosecutors since news of a 15-month secret investigation broke on Dec. 17."

China Bubble Watch:

January 7 - Bloomberg (Joshua Zumbrun and Craig Torres): "China's Cabinet imposed new controls on the multi-trillion-dollar shadow-banking industry with an order that targets off-the-books loans and shores up enforcement of current rules, three people familiar with the matter said. The rules include a ban on transactions designed to avoid regulations, such as moving interbank loans off balance sheets to reduce reported levels of lending, said the people, who asked not to be identified because the order hasn't been made public. Such operations are part of shadow finance, a term that describes lending outside the banking system... The Cabinet order shows concern at the highest levels of government that shadow banking, estimated by JPMorgan Chase & Co. at 69% of China's 2012 gross domestic product, may threaten the financial system's stability... 'Many money-losing industries have been relying on such financing to roll over their debt,' Zhou Hao, a Shanghai-based economist at Australia & New Zealand Banking Group said... 'Currently, most of China's shadow banking is a result of banks' interbank business that is designed to take advantage of regulatory loopholes and ends up pushing up leverage in the whole financial system.'"

January 6 - Bloomberg (Joshua Zumbrun and Craig Torres): "China's audit of local governments exposed an increased reliance on shadow banking, swelling the risk of default on 17.9 trillion yuan ($3 trillion) of debt. Bank lending dropped to 57% of direct and contingent liabilities as of June 30 from 79% at the end of 2010, while bonds rose to 10% from 7%, National Audit Office data show. Trust financing surged to 8% from zero, while other channels that sidestep loan curbs accounted for the remaining 25%. The yield on five-year AA notes, the most common rating for local government financing vehicles, jumped by a record 158 bps last year to 7.6%. That exceeds the 5% on emerging-market corporate notes, Bank of America Merrill Lynch indexes show."

January 6 - Financial Times (Simon Rabinovitch): "China has drawn up new rules aimed at containing risks in its burgeoning shadow finance sector while enshrining non-bank institutions as a pillar of its economy. The draft regulations... mark an attempt by the government to better co-ordinate regulation of the country's shadow banks, but also indicate a more permissive official stance than many observers had anticipated. China's financial system was long dominated by banks, which traditionally accounted for more than 90% of all funding in the economy. But over the past five years the rise of non-bank institutions, especially trust companies, has changed the complexion of Chinese finance, with banks now providing roughly half of all new funding in the economy."

January 9 - Bloomberg: "Charlene Chu, a Beijing-based analyst at Fitch Ratings who said China could face a debt crisis after lending reached double the size of its economy, is leaving the company after almost eight years. Her last day as senior director and head of China financial institutions will be Jan. 14, Chu, 42, said... She'll remain in the Chinese capital to work on her 89-year-old cousin's memoirs, said Chu, who has covered China's banks for Fitch since March 2006. Her warnings that China's debt could spark a crisis preceded Fitch's April downgrade of the country's long-term local-currency debt rating, the first cut by one of the top three rating companies in 14 years."

January 8 - Bloomberg (Joshua Zumbrun and Craig Torres): "China's second-biggest brokerage said record debt threatens to trigger a financial crisis as borrowing costs jump to unprecedented highs despite a cooling economy. Liabilities at non-financial companies may rise to more than 150% of gross domestic product in 2014, raising default risks, according to Haitong Securities Co. The ratio of 139% at the end of 2012 was already the highest among the world's 10 biggest economies... That compares with 108% in France, 103% in Japan and 78% in the U.S... 'We are concerned that the debt snowball may get bigger and bigger and turn into a crisis,' Li Ning, a Shanghai-based bond analyst at Haitong Securities, said... 'Default probabilities from next year may rise because more and more Chinese companies depend on new borrowings to repay old debt.'"

January 9 - Bloomberg (Joshua Zumbrun): "China became the first country in which more than 20 million vehicles were sold in any given year... Total deliveries rose 14% to 21.98 million units last year and may exceed 24 million in 2014, the state-backed China Association of Automobile Manufacturers said... While China's motorization has been a boon for foreign automakers... pressure is building on the government to step in as pollution chokes residents and traffic congestion turns roads into parking lots."

January 10 - Bloomberg: "China's imports rose the most in five months in December... Inbound shipments advanced 8.3% from a year earlier... Exports rose 4.3%, a pace that may be distorted by fake invoices. The trade surplus was $25.6 billion."

January 9 - Bloomberg (Joshua Zumbrun): "China's producer prices, a measure of the cost of goods as they leave the factory, extended the longest slide since the 1990s in December, adding to evidence that the world's second-largest economy weakened last month. The producer-price index fell 1.4% from a year before, the 22nd straight drop, and consumer-price gains trailed estimates at 2.5%..."

January 6 - Financial Times (Tom Mitchell): "Shares in China Railway Group fell more than 7% on Monday, after the construction company announced that its president had died at the weekend in an accident. While the company declined to elaborate on the circumstances surrounding Bai Zhongren's death, state media reported that the 53-year-old executive had been suffering from depression... Last month, the opening of a new railway line in southeastern China pushed the system's length to more than 100,000km, including more than 10,000km of high-speed routes. The company, however, has taken on large debts to fund construction. In October it reported total debt of Rmb532bn ($88bn)... According to a long-awaited report released last week by China's national auditor, debts in the railway sector exceeded Rmb2.9tn and related companies could require central government assistance if they face repayment difficulties."

India Watch:

January 10 - Bloomberg (Unni Krishnan): "India's industrial output unexpectedly declined in November on sluggish consumer spending... Output at factories, utilities and mines fell 2.1% from a year earlier after a revised 1.6% contraction in the previous month..."

Europe Watch:

January 9 - Bloomberg (Mark Deen): "President Francois Hollande's effort to cut the debt burden 'are not yet enough to get us out' of that 'danger zone,' Didier Migaud, head of the national auditor said. France's public debt amounted to 1.93 trillion euros, or 93.4% of GDP at the end of 2013..."

 


 

Doug Noland

Author: Doug Noland

Doug Noland
The Credit Bubble Bulletin
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