Central Banks


Still “Patient”, but too Upbeat for the Stock Market

As a look at the WSJ’s FOMC statement tracker reveals, the Fed currently sounds quite upbeat about the US economy. Given that organs of the State are usually the last to recognize a trend (in this case the trend of a subdued, but better than elsewhere US economic performance), this should be taken as a warning sign that the trend may be close to reversing.

There was only one word for liquidity junkies in the statement: the term “patient”, in the context of the widely anticipated, but continually postponed, rate hike. While the Fed ponders rate hikes, US macro data have begun to weaken rather noticeably of late. Not to an extent yet that would be worrisome, but they offer a strange contrast to the upbeat FOMC statement. Also, the Fed keeps stressing that it sees the recent collapse in inflation expectations as “transitory” (it may well turn out to be), again removing a reason for waiting much longer with a rate hike. Meanwhile, central banks from Canada to Singapore are cutting their administered interest rates, or are adopting a dovish stance (New Zealand, Australia), or are engaging in outright money printing (ECB, BoJ). Bond yields keep plummeting all over the show, including those on treasuries, which benefit from still offering a sizable spread pick-up in today’s world of ZIRP, NIRP and negative yields on government bonds.




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The Swiss Franc Will Collapse


I have worked to keep this piece readable, and as brief as possible. My grave diagnosis demands the evidence and reasoning to support it. One cannot explain the collapse of this currency with the conventional view. “They will print money to infinity,” may be popular but it’s not accurate. The coming destruction has nothing to do with the quantity of money. It is a story of what happens when interest rates fall into a black hole.


swiss tattered flag


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Falling Prices are “Really Bad” for You

It is quite comical how the idea that falling prices are somehow bad for society is continually pushed by the establishment and its mouthpieces. We imagine it is not easy to create propaganda in support of such an obvious absurdity. No doubt every consumer in the world would love nothing more than genuine price deflation. After all, what can possibly be bad about one’s income and savings stretching further and buying more, rather than fewer goods and services?

Consumers and savers all over the world must surely be scratching their heads by now after hearing for the umpteenth time that it will be somehow “good” for them if their real incomes decline and the value of their savings is eroded by rising prices. What exactly is the justification for this nonsense?

Bloomberg has a strongly pro-interventionist, pro-central planning editorial line. This is possibly the case because its owner is a well-known champagne socialist and nannycrat. However, the statist quo is actually supported by a great many prominent financial publications, including the Financial Times, the Economist, and several others. As far as we are aware, there are no major mainstream financial media supporting genuine free market capitalism.



Image credit: Dreamstime


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The Utterly Absurd Becomes the “New Normal”


“Bankers at the World Economic Forum in Davos are applauding the European Central Bank’s announcement of quantitative easing. Some said they were pleased the ECB’s plan, to buy about €60 billion a month in government bonds, is larger than expected. “It was positive and it was needed,” said Francisco Gonzalez, chairman of Spain’s BBVA. “Having said that, governments have to keep with reforms for the plan to meet its purpose,” he added.”


The ECB surprised markets today by unveiling a slightly larger than expected “QE” program. Yesterday’s leak of the decision referred to money printing to the tune of €50 billion per month, so the actual announcement of a €60 billion per month program was seen as a “positive surprise”. Just think about this for a moment. The charlatans running the central bank announce that they will make a grandiose effort to debase their confetti currency even further by printing a huge amount of additional money every month, and this is greeted as a “positive surprise” and is “applauded by bankers”. It should be glaringly obvious by now that the lunatics are running the asylum.



This time it will work! Mr. Draghi unwraps the chief weapon of the John Law School of Economics, which has been failing with unwavering regularity since at least the times of Roman Emperor Diocletian.

Image author unknown


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Swiss Franc Revaluation Repercussions – Swiss, Polish and Austrian Banks in the Crosshairs

The SNB’s unexpected suspension of the EURCHF minimum exchange rate continues to claim victims. There have been a number of spontaneous combustion events striking forex brokers and hedge funds, but there are also effects that will only play out over a longer time period.

As Coveredbondreport.com reports, the credit rating agencies feel compelled to reevaluate their ratings of a number of European banks and their covered bond issues, i.e., European-style mortage-backed securities. Contrary to “normal” MBS or ABS, the assets backing covered bonds remain on the balance sheets of the issuing banks. This makes them safer for investors, as e.g. non-performing assets are usually replaced with performing ones, and other safety-enhancing measures are often taken; at the same time, it means that banks issuing these bonds are exposed to risks that in US style MBS are borne by investors. According to the report:


“Noting that while the move is credit positive for the Swiss sovereign, Moody’s said that the removal of the peg is credit negative for Austrian, Polish and Swiss banks and to covered bonds exposed to euro/Swiss franc exchange rate risk”


Most affected are apparently Austrian banks, with 17% of their mortgage covered bond assets denominated in CHF and Austrian households exposed to the tune of €25 bn. to CHF denominated mortgage loans. The “bad bank” that is administering the wind-down of the assets of Hypo Alpe Adria, an Austrian bank that fell victim to the 2008 crisis and has turned into a major headache for the country’s taxpayers, has taken a hit as well. 21% of its public sector covered bonds are denominated in CHF, which is so to speak adding insult to injury, as it makes the already horrendously expensive wind-down even more so.



When this happens, it’s all over.

Photo via grassvalley.com


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Central Planners Alleged to Have Higher Tolerance for Market Volatility

Bloomberg informs us that the new broom at the Fed, Janet Yellen, won’t immediately rush to the stock market’s aid when the next downturn comes. Could it be that an article from the Onion has been smuggled in while they were not looking? Lately, Fed doves have been wheeled out at every market dip exceeding 3%. The shrinking contingent of haws (such as Charles Plosser) is usually only allowed to hold forth on weekends.

A few excerpts from the Bloomberg fantasy on the miraculous change in central planner focus:


Janet Yellen is leaving the Greenspan “put” behind as she charts the first interest-rate increase since 2006 amid growing financial-market volatility.

The Federal Reserve chair has signaled she wants to place the economic outlook at the center of policy making, while looking past short-term market fluctuations. To succeed, she must wean investors from the notion, which gained currency under predecessor Alan Greenspan, that the Fed will bail them out if their bets go bad — just as a put option protects against a drop in stock prices.

“The succession of Fed puts over the years has led to a wide range of distortions in financial markets,” said Lawrence Goodman, president of the Center for Financial Stability, a monetary research group in New York. “There have been swollen asset values followed by sharp declines. This is a very good time for the Fed to move away.”

When Fed officials met in October, two weeks after the Standard and Poor’s 500 Index (SPX) wiped out all of its gains for the year, they discussed adding a reference to market turmoil in their statement. They rejected the idea to avoid the “misimpression that monetary policy was likely to respond to increases in volatility,” according to minutes of the meeting.

“Let me be clear, there is no Fed equity market put,” William C. Dudley, president of the New York Fed, the central bank’s watchdog on financial markets, said in a Dec. 1 speech in New York. “Because financial-market conditions affect economic activity only slowly over time, this suggests that we should look through short-term volatility.”


(emphasis added)


dudleyNY Fed chief William Dudley: there’s no Fed put, honest injun.

Photo credit: Mark Lennihan, AP


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Communication Breakdown

This morning the Swiss National Bank did what central banks supposedly don’t do anymore nowadays: it surprised the socks off the markets. After still solemnly insisting in its most recent monetary policy assessment that it would “defend the minimum exchange rate of the Swiss franc against the euro with the utmost determination”, the SNB’s planners finally got cold feet and decided to abandon the policy without warning overnight (not that a warning would have done any good).


1-EURCHF, peg dropped, dailyThe market swiftly reassesses the EUR/CHF exchange rate – click to enlarge.


In so doing, the SNB’s board members have not only violated modern-day central bank etiquette, but have presented us with a reminder of how wonderfully stable today’s fiat currencies are. Bloomberg adopts a miffed tone of voice in its report on the matter:


“The Swiss National Bank unexpectedly scrapped its three-year policy of capping the Swiss franc against the euro in a U-turn that may change the perception of a century-old institution known for reliability.

In a surprise statement that sent shock waves through equities and currency markets, the central bank ended its cap of 1.20 franc per euro and reduced the interest rate on sight deposits, deepening a cut announced less than a month ago.

The shift marks an attempt by the SNB to reinforce its defenses of the economy before government bond purchases by the European Central Bank that could crumple the franc cap. The currency surged after the announcement, Swiss stocks including UBS AG tumbled and the chief executive of watchmaker Swatch Group AG said the policy shift would hurt exports. SNB President Thomas Jordan defended the move, saying surprise was necessary.

“It’s amazing that such a stoic central bank could end up abandoning such a long held policy with such short shrift,” said George Buckley, an economist at Deutsche Bank AG in London. “I thought we were out of the situation where central banks surprise so significantly as this.”

With reverberations hitting everyone from currency traders in London to mortgage holders in Poland, economists responded to the SNB announcement with comments including “surprise” and “seismic.” Coming from a nation that has attracted investors for its stability, the change captures the scale of the battle policy makers have repeatedly faced going back decades to rein in a currency popular with investors at times of crisis.”


(emphasis added)


surpriseFX trader Margo Spreadbottom upon hearing the news

Youtube screenshot

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Greek Complications

As many other market observers have pointed out recently, 2015 is going to be an important year for the euro area. On the one hand, there are a number of elections the outcomes of which could seriously jeopardize the monetary union and the currently agreed on policy prescriptions. The temporally closest is the election in Greece, which is likely to bring Syriza to power. As Mish has pointed out recently, bank runs have already started again in Greece. This is not too surprising, as the election creates a lot of uncertainty for depositors and savers. No-one with money in the bank in Greece wants to see it transformed into drachma overnight. Given that the ECB has in the meantime openly threatened to cut off funding to the Greek banking system should the new government stray from the agreements with the troika, this danger is very real. Later this year, the election in Spain is also liable to produce some fireworks (see “A Political Earthquake is Coming in Spain” for some background information), as another crypto-Marxist party, Podemos, has become a contender for power in Spain. It should be pointed out that the economic plans of these parties are purest pie-in-the-sky stuff, which mainly depend on spending money these governments simply don’t have. This is not to say that we would disagree with every point in Syriza’s 40 point program, which contains laudable initiatives like acknowledging Greece’s insolvency and wiping the slate clean, cutting military spending, decriminalizing drugs, and negotiating a stable accord with Turkey (Greece and Turkey are age old enemies). However, its economic program includes vast tax increases (emulating inter alia Mr. Hollande’s 75% “super tax”, which France has just dropped because of the economic damage it has inflicted), nationalization of various industries, re-regulation of labor markets back to their sclerotic old self, and numerous other leftist shibboleths which have predictably failed wherever they have been tried.



The senate of the European Court of Justice.

Photo credit: European Court of Justice

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An Air of Inevitability

One thing recent years have shown is certainly that currency markets have a tendency to overshoot and trend very consistently in the same direction. Sentiment and positioning analysis has in some cases failed to work with unwavering regularity. In fact, it didn’t even help much if fundamentals were not necessarily in line with the trend – the yen being a prime example. Sentiment and positioning on the yen were at extremes for a long time, and while the BoJ has enacted an unprecedented “QE” operation, Japan’s actual money supply growth has remained fairly tame. Not only that, according to John Hussman, the yen is now the most undervalued major currency on a purchasing power parity basis as well (note though that we are a bit wary of such data – how one can reasonably calculate PPP is hard to fathom given the vast array of prices in the economy).


1-Japan-M1-y-yAnnualized growth of M1 (currency and demand deposits) in Japan. At a recent level of 4.8% it remains well below US and euro area money supply growth rates (7.6% and 6.8% respectively)


Of course, in the yen’s case an argument can be made that the markets are punishing it for a perceived loss of quality, as the massive bond buying by the BoJ means the government owes ever more of its debt to itself – an absurdity that cannot remain without consequences forever. Recently Japan’s government announced it would fund more building of bridges to nowhere, i.e., a huge stimulus package is to be enacted, which means that efforts to bring the debtberg under control remain postponed until further notice.

This brings us to the dollar’s strong upward trend that has taken shape last year. Similar to the yen’s downtrend, it has an air of inevitability. The Fed is seen as tightening monetary policy, while others are loosening theirs, or are experiencing an increase in risk aversion (this is the problem of a number of major commodity producing countries). Moreover, it cannot be denied that the dollar’s trend looks technically strong.


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Running on Plastic

America does not run on cash. It runs on credit. In theory, America’s line of credit is unlimited. But in practice… it can get complicated, fast. The US is the first and largest economy ever to function on credit.

Americans have 3.75 credit cards per person. They do some 60 million credit card transactions every day: 67% of gasoline purchases are done with credit cards, 62% of travel expenses, 67% of clothing.

About 40% of low- and middle-income households use them to pay basic living expenses – rent, mortgage, groceries and utilities. And more and more shopping is done online – 100% of it with some form of plastic.

Today, less than one-third of all commercial transactions are settled in cash. The rest are on credit. When the credit cards stop working, the economy stops.


paranoia (1)At times, a touch of paranoia can turn out to be useful …

Image credit: Thinkstock

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Sovereign Bond Buying by ECB No Longer Taboo

Reuters reports that the governor of Belgium’s central bank and ECB council member Luc Coene has come out in support of full-fledged quantitative easing by the ECB in the form of sovereign bond purchases. Not surprisingly, he too is singing from the “deflation danger” hymn sheet:


“The European Central Bank should start buying government bonds to tackle poor investor confidence and low inflation in the euro zone, governing council member Luc Coene said in an interview published on Saturday.

The Belgian central bank chief said the bank had already waited too long, and that this could be one tool to spur economic activity in the 18-country euro zone and fight off deflationary pressures.

“In this context, the purchase of sovereign bonds could prove to be an effective tool,” he told La Libre Belgique.

“Since the beginning of 2014, we have systematically underestimated deflationary effects…if we were to find ourselves at the beginning of next year with negative inflation and fall into a deflationary spiral, the effects on the behavior of households and businesses could be very negative.”

Inflation in the single currency area was 0.3 percent year-on-year in November, well below the ECB’s headline target of inflation below, but close to 2 percent.


(emphasis added)

As we pointed out last week, the only central banker in Europe who hasn’t yet completely lost his mind over the alleged “danger” of the prospect of ever so slightly declining consumer prices is BuBa chief Jens Weidmann (see: “Mr. Nein” for details).

Moreover, prices are in fact not (yet) declining in the euro area overall. There are of course differences from country to country, with mildly declining prices recorded in several of the “crisis countries” – which is to say, precisely the countries that most urgently need lower prices – while prices are rising rather rapidly in others (e.g. in Austria, the annual change rate in CPI is close to the 2% target that allegedly produces economic bliss).

There are several more signs that the ECB is getting ready to crank up the printing presses for real. Not only is it clear that the securities purchase programs currently underway won’t suffice to blow up its balance sheet by the planned amount of € 1 trillion, but it seems that Germany’s central bank may give its nod to sovereign bond “QE” if the peripheral countries agree to take on relatively more risk.


Luc-CoeneLuc Coene stands ready to grab imaginary deflation by the throat.

Photo credit: Belga


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What Did She Mean?

Janet Yellen made headlines yesterday. She promised the Fed would be “patient” in raising interest rates. Investors must not have known what she meant.

With the Dow tearing more than 421 points – or 2.4% – higher, half of investors must have thought she meant higher rates later than expected. The other half must have thought she meant higher rates sooner than expected. Treasury bond prices fell. And the yield on the 10-year T-note completed its biggest two-day move higher in 17 months.

Investors give Ms. Yellen far too much credence either way. Will she raise rates sooner… or later? She probably doesn’t know. She is just reading the newspapers as we do, and wondering when she can get away with it.

She looks in the mirror in the morning and gasps… incredulous of the way people overestimate her. She knows – at least before putting on her makeup – that the whole thing is nothing but face paint and false accounting.

Yellen just doesn’t want to be the Fed chief who has to admit it. And she certainly doesn’t want to be remembered as the one who finally popped the biggest credit bubble in history and ushered in a global depression.



Janet Yellen – official portrait

Photot credit: Federal Reserve – OPA


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December FOMC Decree

Prior to the announcement of the FOMC decision on Wednesday, it was widely expected that the verbiage in the statement would be changed so as to convey an increasingly hawkish stance. Specifically, it was expected that the following phrase, which has been a mainstay of FOMC statements for many moons, would finally be given the boot and no longer appear:


“…it likely will be appropriate to maintain the 0 to 1/4 percent target range for the federal funds rate for a considerable time”  


It is inter alia this bizarre focus on little turns of phrase in the FOMC statement that has caused us to compare the analysis of the actions of the monetary bureaucracy with the art of “Kremlinology” of yore. The Committee is indeed reminiscent of the Soviet Politbureau in many respects. It is unelected, it is engaged in central planning, and its pronouncements are cloaked in an aura of mysticism, akin to decrees handed down from Olympus.

While it is fairly easy (and in our opinion, absolutely necessary) to make fun of this, it is unfortunately affecting the lives of nearly everyone on the planet. The only exceptions that come to mind are Indian tribes in remote areas of the rain forest, since they don’t use money and possess no capitalistic production structure.



Fed chair Janet Yellen: “A couple. You know, a pair. What the Russians call “dva”, although I hear the Russians are no longer as familiar with such low numbers as they once used to be. My dictionary says it means “two”. One less than the number one is supposed to count to before throwing the holy hand grenade of Antioch after its pin has been removed. Not one, definitely not five, absolutely not four and not three either. Two.”

Photo credit: Agence France-Presse / Getty Images


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Weidmann the Strict

BuBa chief Jens Weidmann is complaining about the EU Commission’s decision to eschew confrontation with France over its repeated inability to deliver on its debt and deficit targets, and rightly so.

Some people may argue that the French government’s recent willingness to implement some long-overdue, if halfhearted reforms, should be taken into account as a sign of goodwill. Perhaps, but it was precisely the “original Maastricht sin” of 2002-2003, when neither France nor Germany were taken to task for violating the treaty with their deficit overshoots that created the preconditions that later made it seem normal for many others to violate these limits as well (admittedly, this has to be brought into context with the artificial boom of 2002-2007 and the subsequent bust).

Nevertheless, the fiscal compact strikes as one of the more sensible EU regulations (although it is obviously difficult to enforce it against a big member nation). Not only because the euro’s survival essentially depends on it, but also because keeping government spending under control is good for the economy at large in any event.

If we have a gripe in this context, it is mainly that European governments are often inclined to raise taxes rather than cutting their spending. Both France and Italy currently stand as monuments to the folly of this approach.


weidmannJens Weidmann shortly after learning that France’s government will get away with a slap on the wrist.

Photo credit: Eric Piermont / AFP 


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Malinvestment vs. Overinvestment

Recently we have come across a very interesting article by Lee Adler, which discusses the connection between the Fed’s money printing activities and the shale oil boom. In this context the possibility is mentioned that QE may actually contribute to “creating deflation”.

Obviously, we agree with many, in fact with the vast majority of the points made by Lee Adler in his article. Money printing always diverts investment into lines that later on turn out to be unprofitable, precisely because it distorts relative prices in the economy. Lee Adler should also be commended for drawing attention to the fact that the money relation – i.e., the purchasing power of money – depends not only the money side of things, but also on the goods side.

In an unhampered market economy in which a market-chosen money is employed, it would be reasonable to expect that prices will tend to gently decline over time, as productivity increases will as a rule exceed whatever additions to the money supply occur (for instance, if gold were still used as money, its supply would increase by roughly 1.4% per year and it is a very good bet that economic productivity would be rising at a faster pace).

Thus, a mild, persistent decline in the prices of most or all goods and services is a hallmark of a progressing economy. Needless to say, anyone who has observed the computer industry in the wider sense over recent decades – the productivity growth of which has been so large it actually outpaced the effect of money printing on prices – will realize that no business needs rising consumer prices to thrive, and that consumers do not “postpone their purchases” due to falling prices. The entire idea that a “deflationary spiral” could somehow harm the economy is erroneous (however there is a reason why today’s policymakers are afraid of falling prices, which we will briefly discuss below).

There is of course already an issue with the definition of the terms “inflation” and “deflation”: in their original usage, these terms were employed to designate changes in the supply of money and were not just describing one of their possible effects (i.e., a rising or falling “general price level”).

For the discussion at hand readers need to be aware that Lee Adler uses the terms inflation and deflation in their current definition, this is to say to designate a decrease or increase in money’s purchasing power, not an increase or decrease in its supply. In terms of the original definition of these expressions, there is definitely no deflation in sight anywhere on the planet, least of all in the US:


TMS-2-annUS money supply inflation has been especially large since 2008, running at about twice the pace of euro area money supply inflation and more than three times that of Japan – click to enlarge.


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