Alert
A L E R T
August 26, 2007
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Effective Fed Funds Target is 4.75%/5.00%
Bernanke's Tactics Not Working Well
Financial Tempest's Eye Wall Stalls Temporarily Shy of Landfall
Rigged Data Provide Inexpensive Market Intervention
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PLEASE NOTE: As a point of clarification, the terrible financial tempest that I see breaking is one where massive dollar selling will trigger or exacerbate a major sell-off in U.S. stocks and bonds. Never before have the U.S. markets faced such a severe structural economic downturn or such heavy dependence on foreign capital for liquidity. Not only is the Fed impotent in such a structural shift that also is impeded by a commodity-driven inflation, but also federal fiscal policy has limited impact, where the miscreants in Washington already have embraced uncontainable fiscal excesses.
Where the Fed may find itself spending and creating whatever money it will take to keep the banking system afloat, and where the Fed may have to monetize U.S. Treasury debt dumped by foreign investors, those actions will help set the stage for the coming hyperinflation. Nonetheless, as described in the three-part hyperinflation series that began with the December 2006 SGS, and that will be reiterated in the still-pending Hyperinflation Summary piece, the onset of hyperinflation remains most likely at least several years in the future. When it does hit, however, it should unfold rapidly.
-- Best wishes to all, John Williams
Fed Chairman Bernanke's efforts to stabilize the U.S. financial system have met with minimal success that should prove short-lived. On the plus side has been temporary relative stability in the equity market, aided by extraordinary jawboning and data manipulation, along with market manipulations of the Working Group on Financial Markets (a.k.a. the Plunge Protection Team) as indicated by Treasury Secretary Paulson. On the downside, the liquidity crisis appears not to be contained.
Obviously planted stories in the financial media have touted the Fed's "clever" new approach to liquidity crisis management and how it addresses "moral hazard." Having the Fed address moral hazard in the financial markets is like having a whorehouse madam lecture her girls on the virtues of virginity. Moral hazard is not a primary concern to the Fed when the system is at risk.
The planted stories also explain how there is no need to cut the targeted Fed Funds rate. While there are good reasons not to cut the Fed Funds rate, suggesting it will not happen is ludicrous when the Fed already has done it, as shown below. The Fed Funds shell game is aimed at balancing the needs of short-term Wall Street hype, deemed necessary to goose the stock market, against an extremely serious need to prevent a massive U.S. dollar sell-off. With the economy in an inflationary recession, with the greenback showing new cracks in the last several days, and with the stock market just a month away from squirrelly season, the negative turmoil in the financial markets hardly has begun.
There was a time -- not so many years back -- when the markets had to deduce Federal Reserve policy based on the central bank's behavior. The Fed did not announce its target rate, it just shifted the target and the markets caught on quickly. In something of a throwback to that earlier era, a quick look at the graph below shows that the Fed has shifted the effective Federal Funds rate target lower by 25 to 50 basis points, from the official 5.25%, to within a general range of 4.75% to 5.00%. In the 11 trading days since the discount rate cut, the effective Fed Funds rate has averaged 4.84%.
As to ignoring "moral hazard," the Fed will not let the banks or any major part of the financial system fail, because the system itself would collapse. There is no moral hazard issue for the Fed when the basic system is in danger; whatever liquidity is needed will be provided.
Still, despite the infusion of over $1 trillion in liquidity into the global banking system by a number of central banks during the last two weeks, anecdotal evidence continues to indicate ongoing, major systemic disruptions, with some hard evidence of same surfacing once again in Fed data. For the second week in a row (week-ended August 22nd), commercial paper outstanding declined by roughly $90 billion or 4% (seasonally adjusted), with the decline seen primarily in asset-backed paper. In the week before, the decline had been fairly evenly spread across the categories.
Other Fed reporting in the week ahead should be quite interesting, showing for the first time discount window borrowings and weekly money supply numbers for the beginning of the crisis period.
I ask the forbearance of long-time subscribers on the repetition of the following story. Back in 1989, I retained a mass psychologist to explain why the great stock-market crashes had occurred in October and November. His explanation was that people had a vestigial squirreling instinct. As the signs of winter approach, squirrels hide their acorns and people suddenly become more careful and conservative with their money. Squirrelly season is about one month off.
Aside from signs of an early winter, the missing element in the unfolding crisis remains the U.S. dollar. When major selling of the U.S. currency begins, a massive global liquidity crisis should ensue or be exacerbated, with major sell-offs in both the U.S. equity and bond markets. Flight to safety will be out of the U.S. dollar and U.S. Treasuries and into other traditional safe-haven vehicles such as gold or the Swiss franc. On Friday, the dollar was at its weakest against most major currencies since the discount-window policy shifts, except against the yen, where it still was down from pre-crisis levels.
Beyond any near-term covert central bank currency intervention, rigged economic data or other machinations imposed on the markets, the proximal trigger for the dollar's sell-off could be any one of a number of factors ranging from an official Fed easing to expanded U.S. military activity in the Middle East. Dollar selling is likely to start with little warning and should accelerate rapidly.
Near-Term Economic Data Manipulation May Have Moved to the Fore. As discussed in the last newsletter, the improvement in the June trade data appeared rigged in an effort to help relieve selling pressure on the U.S. dollar. That particular series has been used before. Near-term data manipulation is a very easy and inexpensive way of salving troubled financial markets.
Last week's reporting of two particularly volatile series showed happy upside surprises that played into a stock-market rally. While regular volatility could explain the good news, the results have to be somewhat suspect, given the extreme dangers present in the financial system. The economy certainly did not turnaround in July, and the liquidity crisis should have taken a further noticeable bite out of activity in August.
Seasonally-adjusted new orders for July durable goods rose by 5.9% (6.2% net of revisions) for the month, following a 1.9% increase in June, with July's annual growth at a strong 9.3%. Nondefense capital goods orders rose by 5.8% for the month, 16.2% on an annual basis.
Seasonally-adjusted new home sales for July gained 2.8% (4.3% net of revisions) for the month, following June's 4.0% decline. Annual change in July narrowed to a 10.2% contraction from a 21.2% drop the month before.
With data manipulation a cheap form of market intervention, economic releases of the month ahead should determine if a new and gimmicked reporting pattern is in place for the popular government data.
Week Ahead: Thanks to the suspect June trade data, the "preliminary estimate" revision to second-quarter GDP growth should be to the upside, taking the initial annualized quarterly real growth rate of 3.4% close to or above market expectations of roughly 4.0% (or a "No need for a Fed Funds cut here" result).
Additional detail will follow in the September SGS newsletter.
The September "Shadow Government Statistics" monthly newsletter remains targeted for the week of September 10th. An e-mail advice will be made of all postings, including intervening Flash Updates/Alerts.