Posted on 01/26/2009 7:09:49 PM PST by sickoflibs
The Federal Reserve is struggling to explain its plans for pulling the U.S. economy out of recession as it resorts to unorthodox policy tools while official interest rates are set near zero.
Since a rate-setting meeting in December, several U.S. central bank officials have tried to lay out what the Fed can do now that it has run out of conventional ammunition to support economic growth.
Usually, the Fed can focus its policy message around its interest rate target, but with federal funds already close to zero that capability has disappeared with no clearly discernible substitute on the horizon.
"It is very difficult to communicate the nature and effects of unconventional balance sheet actions," Glenn Rudebusch, associate director of research at the San Francisco Federal Reserve Bank said in a report earlier this month.
Rudebusch suggested the Fed needs to explain what it hopes to achieve with its various new programs to ease conditions in specific credit markets.
The Fed's next chance will come on Wednesday, when its policy-making Federal Open Market Committee issues a statement following two days of deliberations. It will be the FOMC's first meeting since it cut the overnight federal funds rate to a range of zero to 0.25 percent in mid-December.
Some Fed watchers expect a commitment to buying long-term Treasuries, word on an expansion of the efforts to buy securities in other asset classes, or even setting of an explicit inflation target as as a way to tackle worries about deflation.
Still, the reactive nature of many of the Fed's moves since 2007, with programs seemingly created on the fly as fresh crises erupted, has made crafting a clear policy message more difficult, and also devalued the currency of the FOMC statement.
"The Fed has been making up plays at the line of scrimmage, rather than taking them from a playbook," said Brian Fabbri, economist at BNP Paribas in New York. "Thus the relevance and drama of the FOMC meetings—where the markets would anticipate and react to each change in the Fed's target rate—has been reduced."
Helicopter Days
The Fed is now providing huge amounts of liquidity and credit to various segments of the private sector, massively expanding the size of its balance sheet in what Chairman Ben Bernanke terms "credit easing" policy.
It has attempted to distance itself from Japanese-style "quantitative easing," when the Bank of Japan in the early 1990s set an explicit numerical target for reserves, and expanded reserves accordingly.
"The Japanese experience suggests that simply expanding bank reserves—even by a very large amount—had little effect on bank lending or on the economy more broadly," Janet Yellen, San Francisco Fed President and an FOMC voter this year, said on Jan 15.
Still, the Fed risks a communications gap because its "alphabet soup" of programs can not be be distilled into a simple message on its policy bias—easier, tighter, or no change—or easily measured for signs of success.
Chicago Fed President Charles Evans has defined the Fed's current actions as a proxy for doing the impossible, or setting the fed funds rate at a negative level.
"The trick, no doubt, would be to print exactly the right amount of money to fix today's economic problems without generating another disaster via hyper-inflation," said Rory Robertson, interest rate strategist at Macquarie Bank in Sydney.
But fine-tuning policy around a theoretical negative funds rate is tough, as then-Fed governor Bernanke acknowledged in a now-famous 2002 speech on deflation.
"Alternative policy tools ... may raise practical problems of implementation and of calibration of their likely economic effects," Bernanke said.
Bets in the derivatives markets suggest the Fed could start lifting interest rates as soon as September. Many forecasters look for a much longer spell of near-zero rates, given their gloomy economic outlook.
Jan Hatzius, economist at Goldman Sachs, said that by the end of 2010 conventional monetary policy drivers such as the Taylor Rule, which suggests appropriate adjustments to interest rates based on factors such as inflation and the jobless rate, would imply a fed funds rate of negative 6 percent.
"Our forecast of a 9.5 percent unemployment rate by late 2010 implies the largest amount of slack of the postwar period," Hatzius said. "Fed (and Treasury) officials will need to expand their efforts to stimulate demand dramatically further."
Prices are a straw man when discussing inflation? Did you fail out of the same school as Lunkhead? LOL!
I loaned it to my brother, no one made a copy. Try again?
If this is all you've got, I have better things to do today. All of them more interesting than this.
That isn't what the Fed is doing when it just prints more money. Don't bother to try again. If this is all you have, you don't have much.
I’m sorry you don’t understand money supply and inflation. If you learn more (LOL) and have any questions, I’m always glad to help.
Wow! Reading comprehension problems as well.
When the Fed prints money, they print money. Sorry you're confused about lending and inflation.
Don't bother to try again.
I know, trying to talk economics to a stump is a waste of time.
Originally, it was meant to smooth out short-term liquidity and financial needs via overnight & 30-60 terms, but there were situations where contracts could be 'open ended' eg 1-2 years. Where it's gone crazy (IMHO) is Congress added, during last fall's hysteria, a bunch of new ares like commercial paper, money market funds, etc that qualify under this program.
That, dear readers, is how the Fed magically increased reserves by a $1-2T in just the last few months. That is, a lender bank provides $10-50B or so of toxic mortgage backed securities that the Fed takes as collateral for a comparable fund infusion. Simple as that, no?
Well, if it's that simple, why bother with the $1T pork bill currently working its way through Congress? Because the bank doesn't spend the money directly - it's supposed to lend it. But because we are in a deflationary spiral, no one is borrowing/lending right now, so they're sitting on these reserves. ( Btw, this is called 'velocity'. If you are holding out in the expectation of getting a better deal as prices drop, or are waiting to enter into a loan to buy a house/car, start a business, etc, you are helping reduce velocity.)
But even the Fed has its limits, which is why Congress is entertaining the 'bad bank' concept. Instead of using interbank Fed processes, .gov will just go out and buy a couple $T or so of bad assets so that the banks are left with 'good assets' in which to restore solvency. An astute person at this point has probably identified the risk with these plans: it socializes the cost of holding these bad assets with the backing of the US gov't.
If you agree with Denninger that real estate needs to come back to 3-4x income in order to provide an sustainable market, then these asset values won't come back for a long, long time. In addition, if you agree with Mish that the consumer model is dead, then we're not going to see another credit expansion boom in which to also raise asset values.
IOW, we've bet the farm on two losing propositions in an effort to stop the debt-deflation cycle. That's why we're not seeing hyper-inflation - normally, what Bernanke is doing would fuel crazy price increases; instead, things are bumping along because whatever he is doing is being more than offset by the credit unwind.
So there you go. Also, one other thing: conspiracy guys think Bernanke & Co. are helping our their buddies by buying these assets to help them keep their jobs, get their bonuses, receive kick-backs, you name it.
Hyper-inflation is still on the horizon. Printing more bills for wealth that doesn't exist, and never existed in the first place, ensures this. Bank on it...
And when they print 700 billion followed by another 800 billion in this porkulus package, throw in the money multiplier effects of banks and fractional reserve banking, yes you are going to get inflation.
What you are saying regarding lending makes sense in that it will not cause inflation, but ONLY to a degree. Inject this much money into the banking system as compared to GDP, and yes you will get inflation.
Friedman thought the Depression could have been averted via monetary policy. But as we have found out, pursuing a zero interest rate policy (ZIRP), reducing reserve requirements to practically nothing, and pumping add'l $trillions into the money supply (as described in my prior posts) hasn't really done a thing.
That's because Milton discounted psychology, as is measured by the velocity of money (propensity to spend). To use your printing dollar bills analogy, what do you think most people would do if they were magically given an add'l $500? Go out and spend it, or put it under the mattress? Right now, the global sentiment is to put it under the mattress. This is negative velocity when everyone is hoarding.
Hyper-inflation requires a wage-price spiral, but as unemployment heads towards 20%, how does one get wages to follow price increases? Especially with 20m illegals willing to do whatever it takes as long, as they don't have to return to Mexico where it's worse (and getting even worse).
If the economy started to recover and the Fed continued its current policies, sure, we'd have inflation. But they won't - they would immediately start contracting the money supply using the reverse of what I have described. But until asset prices begin to climb, we're in no danger of that occurring any time soon.
For the record, I believe we're in for a 10-15 yr Japan like experience. No matter what monetary & fiscal measures are employed, until there is some fundamental demand driver, over-valued asset prices (ie housing) will continue to decline over the next 5 years until they reach some sustainable rate of affordability.
The reserve requirement already doesn't allow the market to determine a reasonable amount of lending, but I don't think doing away with it would be a good idea.
Slowing down the massive deleveraging can be done without trying to pump new loans - it just requires traditional Fed loans with somewhat longer terms.
How would the effect of this be different from the Fed lowering its rates?
The market is going to have to be allowed to properly price loans, the longer that is postponed, the worse the inevitable contraction (or hyperinflation) will be.
Ideally, the Fed would realize the money supply is fine and place its rates accordingly at around 5-9%, and some other mechanism would be used to make sure companies could get loans to cover short term payroll shortfalls. What is happening now will lead to a short period of rapid inflation that should be able to be handled quickly by the Fed by increasing rates to sane levels.
This graph says it all. We are staring in the face of a currency collapse that will wipe out 99% of the people who voted for Obama.
Will no one rid me of this burdensome economist?
And what, pray tell, are they transferring with these wire transfers?
ToddsterP, you need to go to finishing school. Ditch the attitude and come up for air. You may be useful to us.
Didn’t you claim you had a PhD in economics? Were you lying?
I have got one question:
Do you think it’s going to work out without an - in wider terms - bankropcy of the state ?
I mean - forgett greece and others in europe - these economies are rather small and if Europe really wants it could bail some of them out.
Trouble is - this aint the same with the greenback or the german states debt(Although we have the euro there’s a certain difference to other european states lending rates as you probably know)
If the Fed helps out with money stimulus and monetarized a lot of junk - the reason for the junk is not removed.
If the fed grands the business banks really good conditions by buying of their junk - what makes them want to fund a house for people in economic trouble ?
Even worse - what if they did ?
I guess, at the moment not even consumers are taking any risks and that’s a completely new thing for america I’ve heard.
I guess to overcome this downfall of economy the covernment had to find ways not even to get the trash out of the banks but also to stand in for future trash. If they get help from an all and everything monetarizing fed - who’s going to carry the risk of Fed deposits to barf ?
Lenders will finally find out that they MAYBE have little alternatives but to buy US treasure (or german treasure) - but they WILL seek for them and will find some.
Wouldn’t there finally be a threshold of debt that the US CAN’T take ?
You don't really have a degree in economics, do you?
And just how many of those with economic degrees predicted the current trouble?
New money is a stimulus to what? Inflation? That's the point of view of the Monetarians, and I think the Austrians.
Buying. When I get money, I buy things with it.
When the Fed buys securities from a primary dealer, the primary dealer has an incentive to buy things with it. Or lose interest on the cash.
Disclaimer: Opinions posted on Free Republic are those of the individual posters and do not necessarily represent the opinion of Free Republic or its management. All materials posted herein are protected by copyright law and the exemption for fair use of copyrighted works.