Today's Fed Decision

Économiste Monétaire

After the two day Fed policy meeting, they've announced an increase in purchase programs:

• Purchase an extra $750bn in agency MBS, giving a total of ~$1.25 trillion;
• Double the current holdings of agency debt, giving total SOMA agency debt holdings of ~$200bn and;
• They will start purchasing ~$300bn in long-term Treasuries, which means they're straying from the credit easing approach, described by Bernanke a few weeks ago, to mirror the BoE/BoJ approach.

They've also kept the target on the Fed funds rate at 0 to 0.25 percent. I'm guessing this brings the Fed balance sheet to near $3.3 trillion. I have no idea how they're going to wind down all these programs in a few years...

nesf

Économiste Monétaire wrote: »

I have no idea how they're going to wind down all these programs in a few years...

With great difficulty I imagine. Taking that much money back out of the system is going to be messy.

A Dub in Glasgo

So this is creating $1.2trillion out of thin air? Your ordinary decent criminal is not a patch on the masters of the universe who have caused this

cm2000

Those guys are gona have some uber inflation issues in a year or two

silverharp

I'm glad you guys are wondering about this. They are making this stuff up as they along. They seem to want to get treasury yields down but how long they will suceed.

Flamed Diving

Insanity.

andrew

To what extent are those who believe that this will cause bad inflation being realistic?

silverharp

andrew wrote: »

To what extent are those who believe that this will cause bad inflation being realistic?

not much , the bigger trend is deflationary. If US debt to GDP was to get back to anything like a historical norm 150%ish of GDP then there is some insane number like $30T of debt that needs to be written off or paid off.
The important thing to take from it is that there is the unintended consequences to deal with.

Dimitri

I appreciate this isn't quite the same as just printing new money but if this does kick start inflation and bring it beyond acceptable levels will it possible for them to remain in control of the situation or is this simply grand experiment?

Flamed Diving

Dimitri wrote: »

I appreciate this isn't quite the same as just printing new money but if this does kick start inflation and bring it beyond acceptable levels will it possible for them to remain in control of the situation or is this simply grand experiment?

Well, according to a former lecturer of mine this behaviour is exactly what one should expect from Bernanke, for those who have followed his publications on the subject throughout the years. Where Greenspan believed in gradual changes, Bernanke prefers break-neck turns. I'm skeptical...

I'm not sure what previous Chairmen were like. Has anyone behaved like Bernanke before?

silverharp

Flamed Diving wrote: »

I'm not sure what previous Chairmen were like. Has anyone behaved like Bernanke before?

There has been a mention of something called "Operation Twist" in the 1960's , where they started buying bonds to keep rates down , would have to read up on it though

nesf

Decent Economist article on this: http://www.economist.com/daily/news/displaystory.cfm?story_id=13325328&fsrc=nwl

Essentially, inflation is not the threat at the moment. It's not even clear that this quantitative easing will actually reach beyond the banking circles (a la what happened in Japan a decade ago).

Inflation will be a problem if there isn't a political will to reduce the balance sheet of the Fed in the future.

nesf

Another Economist article worth reading about inflation fears: http://www.economist.com/finance/displaystory.cfm?story_id=13326779

Flamed Diving

My biggest fear is not inflation. It's that if this fails, what tools has The Fed left?

nesf

Flamed Diving wrote: »

My biggest fear is not inflation. It's that if this fails, what tools has The Fed left?

Fiscal stimulus paid through the Fed buying the Government bonds issued to cover the cost of it. Essentially printing money so the US Government can spend it.

Économiste Monétaire

It appears as if the MBS purchase is having the desired effects, Link.

The answer to my original question, on how the Fed will unwind these programs, appears to be addressed by the San Francisco Fed President: the Fed will issue its own debt and somehow the Treasury will take the less liquid assets off the Fed's balance sheet in exchange for Treasuries.

Bernanke gave a speech today, at a Richmond Fed event, on the Fed's balance sheet. He addresses the question of removing the excess reserves in the system, albeit in not a lot of detail vis-á-vis MBS. I'm fairly bemused as to why he continually refers to the agency MBS in the same sphere of credit worthiness as Treasuries.

The large volume of reserve balances outstanding must be monitored carefully, as--if not carefully managed--they could complicate the Fed's task of raising short-term interest rates when the economy begins to recover or if inflation expectations were to begin to move higher. We have a number of tools we can use to reduce bank reserves or increase short-term interest rates when that becomes necessary. First, many of our lending programs extend credit primarily on a short-term basis and thus could be wound down relatively quickly.

In addition, since the lending rates in these programs are typically set above the rates that prevail in normal market conditions, borrower demand for these facilities should wane as conditions improve. Second, the Federal Reserve can conduct reverse repurchase agreements against its long-term securities holdings to drain bank reserves or, if necessary, it could choose to sell some of its securities. Of course, for any given level of the federal funds rate, an unwinding of lending facilities or a sale of securities would constitute a de facto tightening of policy, and so would have to be carefully considered in that light by the FOMC.

Third, some reserves can be soaked up by the Treasury's Supplementary Financing Program. Fourth, in October of last year, the Federal Reserve received long-sought authority to pay interest on the reserve balances of depository institutions. Raising the interest rate paid on reserves will encourage depository institutions to hold reserves with the Fed, rather than lending them into the federal funds market at a rate below the rate paid on reserves.5 Thus, the interest rate paid on reserves will tend to set a floor on the federal funds rate.

Link. There's no mention of Fed debt issuance, though.

silverharp

Économiste Monétaire wrote: »

It appears as if the MBS purchase is having the desired effects, Link.

The trend is still up though , if you reckon that the real rate of interest in 07 was -1.5% we are probably at 3ish now

Économiste Monétaire

silverharp wrote: »

The trend is still up though , if you reckon that the real rate of interest in 07 was -1.5% we are probably at 3ish now

Are you referring to a negative real interest rate on the Fed Funds rate or mortgage rates? FHLMC data shows above 6% 30 year fixed mortgage rates for '07, Bankrate is giving me a national overnight average low of 5.2* for early 2007. Annual CPI changes would mean that, for all of 2007, none of these would not record negative real rates. Are you using monthly changes in CPI?

silverharp

Économiste Monétaire wrote: »

Are you referring to a negative real interest rate on the Fed Funds rate or mortgage rates? FHLMC data shows above 6% 30 year fixed mortgage rates for '07, Bankrate is giving me a national overnight average low of 5.2* for early 2007. Annual CPI changes would mean that, for all of 2007, none of these would not record negative real rates. Are you using monthly changes in CPI?

I was thinking more along the lines of Long Bond rates, from memory they dipped below CPI in 07 (monthly) and now the real interest rate on this basis is over 3%. My view is that over the next number of years you could end up with an extreme like -4% inflation and long bond rates approaching 8%.

johnnyskeleton

Économiste Monétaire wrote: »

• They will start purchasing ~$300bn in long-term Treasuries, which means they're straying from the credit easing approach, described by Bernanke a few weeks ago, to mirror the BoE/BoJ approach

What is the significance of this? I thought that buying back treasuries put money into the economy rather than taking it out.

andrew wrote: »

To what extent are those who believe that this will cause bad inflation being realistic?

It's not so much that these measures will definitely cause inflation, but rather that there is a risk it can, and essentially they do not know what effect it is going to have. On one hand, it could be free money for the financial sector without any significant impact on inflation. On the other, it could cause massive inflation in consumer areas without correcting the problems of the banking sector. It could transpire that it is not enough, or it could be too much. Some people also suggest that a lot of US inflation has been suppressed and that the headline inflation figures don't reflect the reality (in which case things are already over inflated and should deflate somewhat).

I don't think the stimuli will have any clear cut effect such as across the board inflation. See this thread for an interesting possibility:

http://www.thepropertypin.com/viewtopic.php?f=19&t=15495

Économiste Monétaire

silverharp wrote: »

I was thinking more along the lines of Long Bond rates, from memory they dipped below CPI in 07 (monthly) and now the real interest rate on this basis is over 3%. My view is that over the next number of years you could end up with an extreme like -4% inflation and long bond rates approaching 8%.

Ah, you're looking at benchmark rates. At the end of '07 through to mid '08, the 10 year Treasury went negative, for sure. What's you opinion on the state of other indicators like the TED and LIBOR-OIS spreads? Greenspan seemed fixated on the latter, it remains stubbornly high but down markedly from the Lehman spike. The results on the upcoming TIPS auction will be interesting for a market perspective on possible inflation down the road or, to complement your view, deflation being the greater risk.

johnnyskeleton wrote: »

What is the significance of this? I thought that buying back treasuries put money into the economy rather than taking it out.

It does, I never stated to the contrary. They're buying up benchmark assets on mortgages, which couples with their TALF ABS support program and POMOs of agency-backed MBS. Buying up government debt from banks wasn't favoured by Bernanke (at least from my interpretation of his LSE speech), he saw the 10 fold increase in Japanese bank reserves with little increase in corresponding credit allocation by those banks. He cites a need to avoid 'credit allocation' but that's effectively what the Fed was doing by targeting specific spreads... That could be a reason why they're resorting to this vanilla approach.

silverharp

Économiste Monétaire wrote: »

Ah, you're looking at benchmark rates. At the end of '07 through to mid '08, the 10 year Treasury went negative, for sure. What's you opinion on the state of other indicators like the TED and LIBOR-OIS spreads? Greenspan seemed fixated on the latter, it remains stubbornly high but down markedly from the Lehman spike. The results on the upcoming TIPS auction will be interesting for a market perspective on possible inflation down the road or, to complement your view, deflation being the greater risk.

I dont look at TED or LIBOR spreads as such , if someone was to ask me about bonds I'd say invest in 5 year and dont go near longer dated bonds due to price risk. I tend to keep an eye on changes in prime or subprime bond prices/yields. They tend to lead the stockmarket so just a useful way of seeing if things are getting stormy. The May-Jul will be very interesting, if credit conditions are benign over the summer I'll have to look at this again, for now I just think we are in a technical rebound that will fail.

I dug out an old chart I had from 07

Économiste Monétaire

Interesting. On the debt issuances, I've seen some positive views on munis today; I wonder how the recent tax actions by the House are playing to this. Also, there's a story here on the recent performance of TIPS and inferred inflation expectations. Tomorrows auction will be interesting. I still haven't figured out what the recent rally is based on? A technical correction from extreme pessimism? There's still falling asset prices (January Case-Shiller was negative across all areas), very large numbers being laid off, quite a lot of consumer debt. Those unemployment figures are astonishing. On the bright side: falling mortgage rates and an increase in refinancing; housing starts being quite high last month; oil starting to go up... Maybe I missed something really positive last month

Cramer: April showers may bring May flowers.

eamonnm79

What we are seeing is the greatest looting operation of the american tax payer in history. Its socialism for the rich. Its nuts. If you deleverege banks, allow levels of personal debt to spiral out of all reality then you stop getting a real value of what money is worth. The more and evermore complex products traded, the fact that only about 2% of cash is in printed money. In my opinion the whole thing is a ponsi scheme that is justified as it helps encourage and stimulate, that silver bullet of freemarket economics "growth". How is this funny money entering the american economy, that didnt exist until it was printed, going to help avoid a large recession. The only possible answer is that if americans drink the coolade again. If americans go back to pretending that they dont have to pay and that they can spend more money they dont have, they will.
Before Obama got elected he talked about risking "our grandchildrens future" when refering to the amount Americans were in debt to the Chinese.
His answer? Borrow, not from the Chinese, but from the American taxpayer and therfore either further endept "our grandchildrens future" or just default some time in the future when the Chinese ask to be repaid.

silverharp

Économiste Monétaire wrote: »

Cramer: April showers may bring May flowers

I prefer "sell in May and go away":pac:

1930 was similar the big crash was Oct 1929 then you had a decent rally in the first half of 1930 before the weels came off again. Anecdotaly
more people lost money in 1930 by buying in then then in 29

silverharp

Looks like the market has different ideas from the Fed about where bond yields should be going

Économiste Monétaire

We're not back to the November spike of ~250 from that spread, but the Fed is trying hard to keep the 10Y below 3%. Something I heard on CNBC made me chuckle, "10 year yield touching on 3%, then the Fed went shopping." China has been buying up gold lately, not a good sign for Dollar & Dollar assets...

Edit: Have you checked out the stress test release by the Fed? (link) "More adverse scenario" and a projection of growth next year is a bit odd; the baseline number for unemployment is deluded, in my opinion. We're already at 8.5%, are they really expecting unemployment to level off and slightly drop by the end of the year? :rolleyes:

silverharp

Économiste Monétaire wrote: »

We're not back to the November spike of ~250 from that spread, but the Fed is trying hard to keep the 10Y below 3%. Something I heard on CNBC made me chuckle, "10 year yield touching on 3%, then the Fed went shopping." China has been buying up gold lately, not a good sign for Dollar & Dollar assets...

Edit: Have you checked out the stress test release by the Fed? (link) "More adverse scenario" and a projection of growth next year is a bit odd; the baseline number for unemployment is deluded, in my opinion. We're already at 8.5%, are they really expecting unemployment to level off and slightly drop by the end of the year? :rolleyes:

God, they'll be telling us about tractor production next

http://www.ibtimes.com/articles/20090416/feds-lockhart-predicts-slow-and-tentative-growth-in-third-quarter.htm

A recovery from one of the most severe recessions in the post-war era is around the corner, Atlanta Federal Reserve Bank President Dennis Lockhart said Thursday. Although he does not expect the recovery to be strong, Lockhart said he expects "slow and tentative growth" in the third quarter.


"My outlook calls for the beginning of a recovery in the second half of 2009," Lockhart said in prepared remarks. "I do not expect a strong recovery, but I do expect the economic contraction we're now experiencing to give way to slow and tentative growth as early as the third quarter."



This is my forecast:pac:

Économiste Monétaire

Interesting projections :pac:. If Chrysler or/and GM liquidate, those unemployment numbers could explode. On the Case-Shiller composite projection, I have a figure of 19.1% drop from Q4: '07 to Q4: '08, the "more adverse" figure is quite high at 22%.

Flamed Diving

Could they make that turnaround any more acute?

eamonnm79

I notice the gdp projections in the diagram are spoon shaped. Spoons, perfect for sipping coolaide :)

silverharp

Économiste Monétaire wrote: »

Interesting projections :pac:. If Chrysler or/and GM liquidate, those unemployment numbers could explode. On the Case-Shiller composite projection, I have a figure of 19.1% drop from Q4: '07 to Q4: '08, the "more adverse" figure is quite high at 22%.

Looking at it from a different slant , if you look at the S&P a classic bear market bottom will be P/E ratios and dividend yields meeting at anywhere from 6 to 10 , the current P/E ratio is in the 50's and dividend yields are less then 3 , I cant imagine seeing any real bottom for some time then it will take another year or 2 for any meaningful recovery that would feed through to reducing unemployment.
Anyone looking for a serious turn in 2010 hasnt looked at their history books. My big question is are they actively distorting the numbers to buy time or are they stuck in some kind of bubble?

Économiste Monétaire

Flamed Diving wrote: »

Could they make that turnaround any more acute?

Aye, I'm curious as to which component of GDP they're expecting to pick up the slack. Government will only last for so long. (Here's the latest real GDP figures for Q4: '08.)

silverharp wrote: »

Looking at it from a different slant , if you look at the S&P a classic bear market bottom will be P/E ratios and dividend yields meeting at anywhere from 6 to 10 , the current P/E ratio is in the 50's and dividend yields are less then 3 , I cant imagine seeing any real bottom for some time then it will take another year or 2 for any meaningful recovery that would feed through to reducing unemployment.
Anyone looking for a serious turn in 2010 hasnt looked at their history books. My big question is are they actively distorting the numbers to buy time or are they stuck in some kind of bubble?

The hypothesis seems to be that investors are pricing in recovery for Q3 this year. Kinda like those people clinging to the idea of a great recovery in BoI and AIB shares... May 4th the results of the stress tests are out. No one believes the unemployment figures from the coverage I was watching yesterday and it will be interesting if any of the 19 'fail' the not-so-stressful stress test. Of course, they could just lie considering that it's being done in house...

silverharp

Économiste Monétaire wrote: »

the coverage I was watching yesterday and it will be interesting if any of the 19 'fail' the not-so-stressful stress test. Of course, they could just lie considering that it's being done in house...

I heard some chatter that they might have a sacrificial lamb like State Street Corp. but will say the rest are ok , I dont think it matters, they have had no credability so far so unless they that most will be in bad shape over the coming years then by definition they ar sugaring the pill

Économiste Monétaire

silverharp wrote: »

I heard some chatter that they might have a sacrificial lamb like State Street Corp. but will say the rest are ok , I dont think it matters, they have had no credability so far so unless they that most will be in bad shape over the coming years then by definition they ar sugaring the pill

From the WSJ, the list of banks:

J.P. Morgan Chase & Co.
Citigroup
Bank of America Corp.
Wells Fargo & Co.
Goldman Sachs Group
Morgan Stanley
MetLife
PNC Financial Services Group
US Bancorp
Bank of NY Mellon Corp.
SunTrust Banks Inc.
State Street Corp.
Capital One Financial Corp.
BB&T Corp.
Regions Financial Corp.
American Express Co.
Fifth Third Bancorp
Keycorp
GMAC LLC

I would guess that Amex would be on shaky ground after 10% unemployment. Even the Fed is taking losses lately, I read something about Maiden Lane II writing down some of the AIG MBS. Treasury indemnifies the Fed against any losses, but I wonder what would happen in the ECB's case vis-à-vis the ~€700bn in ABS.

On the point of unnecessary optimism, the front page of The Economist: A Glimmer of Hope? The World Economy and the Perils of Optimism. (Link.)

silverharp

Économiste Monétaire wrote: »

We're not back to the November spike of ~250 from that spread, but the Fed is trying hard to keep the 10Y below 3%.

It seems like the Fed is the only buyer of US bonds. If this keeps up its going to throw a monkey wrench into the mortgage market

Économiste Monétaire

Just from looking at their recent SOMA purchases, the Fed has already hit around $75bn of Treasuries out of the $300bn they were planning to buy. The March 30Y auction came out with a yield of 3.6%, private demand wasn't too low. If Bernanke et al. decide to go shopping on the 30Y to the same extent as the 10Y, I wonder what that will mean for September onwards when the Fed ends its current QE policy. Debt issuance isn't going to level off concurrently. I'd hope that a cycle of printing, just to keep mortgage rates down, doesn't become a view of Congress.

The latest line from the FOMC on inflation:

In light of increasing economic slack here and abroad, the Committee expects that inflation will remain subdued. Moreover, the Committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term.

silverharp

Économiste Monétaire wrote: »

, I wonder what that will mean for September onwards when the Fed ends its current QE policy. Debt issuance isn't going to level off concurrently. I'd hope that a cycle of printing, just to keep mortgage rates down, doesn't become a view of Congress.

It will be a difficult environment , at the moment corporate bonds are doing very well and the general markets, by Sep I'd expect more of the credit nasties, so if money flows back into gov. bonds it would be at the expense of the general economy. Maybe they' will start buying corporate debt :eek:

Économiste Monétaire

silverharp wrote: »

It will be a difficult environment , at the moment corporate bonds are doing very well and the general markets, by Sep I'd expect more of the credit nasties, so if money flows back into gov. bonds it would be at the expense of the general economy. Maybe they' will start buying corporate debt :eek:

I don't know how they could justify micro-level credit allocation of that order. Sure, I guess it's only a hop, skip and a jump from their previous purchases of GSE discount notes..:pac: TALF is, in part, an attempt to help small business borrowings, but distinct as a lending programme rather than a purchase programme. But, hey, there's no more credit risk in holding Treasuries than McDonalds' debt, judging by CDS spreads a few months ago

I just read this, on the subject of crowding out by Krugman, and thought you might get a kick out of the logic. Consumers are saving too much to achieve full employment, ergo government borrowing is justified and it won't crowd out the private sector at implied interest rates...

http://krugman.blogs.nytimes.com/2009/05/02/liquidity-preference-loanable-funds-and-niall-ferguson-wonkish/

silverharp

Économiste Monétaire wrote: »

I don't know how they could justify micro-level credit allocation of that order. Sure, I guess it's only a hop, skip and a jump from their previous purchases of GSE discount notes..:pac: TALF is, in part, an attempt to help small business borrowings, but distinct as a lending programme rather than a purchase programme.

Your right , I think the trend is clear though , rising rates at the longer end of the curve and continued deflation. From the Fed's point of view if almost all asset classes are falling then they simply wont be able to get the credit out the door.


[/QUOTE]
Now, there are real problems with large-scale government borrowing — mainly, the effect on the government debt burden. I don’t want to minimize those problems; some countries, such as Ireland, are being forced into fiscal contraction even in the face of severe recession. But the fact remains that our current problem is, in effect, a problem of excess worldwide savings, looking for someplace to go.[/QUOTE]

I've never bought into this concept, its akin to trying to heat your house by putting a lighter against the thermometer. How someone could talk in terms of excess savings when by one measure there is $30T of excess debt in the US not backed by asset values is beyond me.

Économiste Monétaire

The 10Y note jumped today :pac:. Are you watching the stress test results, Silverharp? $75bn needed for 10 banks.

Overview of the results.

BoA needs $34bn, I would have thought Amex and Citi would have faired worse under the more adverse scenario. They need to run this again with realistic unemployment projections. 23.5% losses on total credit card amounts outstanding is shocking, especially at such low unemployment projections.

Flamed Diving

Hmm, not one bank failed.

My right eyebrow could not be raised any higher.

Économiste Monétaire

10 banks need more capital under the adverse scenario.

Flamed Diving

Yeah, I just have heard some arguments about how The Fed really couldn't come out and say a bank had failed (the insolvency test), given the catastrophic effect that would have.

Just taking the news with a pinch of sodium.

silverharp

Économiste Monétaire wrote: »

The 10Y note jumped today :pac:. Are you watching the stress test results, Silverharp? $75bn needed for 10 banks.

not allowed watch Bloomberg at the moment, yep thats a big move in a day. Listening to Benny the other night expecting the US economy to turn up later in the year. lol

Économiste Monétaire

Well, no one failed in the sense that all of the 19 BHCs had the 4% minimum tier 1 capital ratio under the adverse scenario for '09 and 2010. The problem is that The Fed/Treasury/FDIC want a figure of at least 6% tier 1 capital ratio, with 4% tier 1 common capital ratio. I'm not entirely sure where that's going to leave Citi and BoA .

Bloomberg is good, wholesome family viewing...

eamonnm79

Économiste Monétaire wrote: »

Well, no one failed in the sense that all of the 19 BHCs had the 4% minimum tier 1 capital ratio under the adverse scenario for '09 and 2010. The problem is that The Fed/Treasury/FDIC want a figure of at least 6% tier 1 capital ratio, with 4% tier 1 common capital ratio. I'm not entirely sure where that's going to leave Citi and BoA .

Bloomberg is good, wholesome family viewing...

I think that, after reading a karl whelan article I remember that Irish banks are supposed to have 8% tier one capital. What makes the American banks less risky ie need a lower rate of tier one capital?

Économiste Monétaire

Heterogeneous implementation of Basel I (and for those who have implemented II) accords.

eamonnm79

Économiste Monétaire wrote: »

Heterogeneous implementation of Basel I (and for those who have implemented II) accords.

I think you are saying the difference is because we promised to keep it at 8% in the Basel accords.
But it doesnt explain why the US stress tests are still underestimating risk and allowing such high levels of leveredge (I dont expect anyone to be able to answer this its more a retorical question/observation)

nesf

eamonnm79 wrote: »

I think you are saying the difference is because we promised to keep it at 8% in the Basel accords.
But it doesnt explain why the US stress tests are still underestimating risk and allowing such high levels of leveredge (I dont expect anyone to be able to answer this its more a retorical question/observation)

The US numbers are lower than what would be ideal but the time to change capital requirements is when the market is healthy enough to provide the extra capital needed not when the market won't do it and the State has to come up with the cash.

silverharp

this youtube video is doing the rounds today


Rep. Alan Grayson asks the Federal Reserve Inspector General about the trillions of dollars lent or spent by the Federal Reserve and where it went, and the trillions of off balance sheet obligations. Inspector General Elizabeth Coleman responds that the IG does not know and is not tracking where this money is.