Not Much To Do for Kremlinologists

Yesterday's FOMC statement was, as so often, almost a carbon copy of the one preceding it. It takes note of the recent economic improvements and the fact that they don't amount to a whole lot yet, while continuing to promise ZIRP until 2014. The pledge not to allow the Fed's balance sheet to shrink has been renewed as well, and 'Operation Twist' is of course to continue. Once again, Jeffrey Lacker – the sole hawk with a vote on this year's FOMC board – has been the lone dissenter.

 

The statement in all it bureaucratese pablum glory can be read in its entirety here.

 

One perhaps noteworthy comment was the one on energy prices, contained in the snippet below:

 

“Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects moderate economic growth over coming quarters and consequently anticipates that the unemployment rate will decline gradually toward levels that the Committee judges to be consistent with its dual mandate. Strains in global financial markets have eased, though they continue to pose significant downside risks to the economic outlook. The recent increase in oil and gasoline prices will push up inflation temporarily, but the Committee anticipates that subsequently inflation will run at or below the rate that it judges most consistent with its dual mandate.

To support a stronger economic recovery and to help ensure that inflation, over time, is at the rate most consistent with its dual mandate, the Committee expects to maintain a highly accommodative stance for monetary policy. In particular, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that economic conditions–including low rates of resource utilization and a subdued outlook for inflation over the medium run–are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.

 

(emphasis added)

It's not that we necessarily disagree that the rise in the price index due to higher energy prices will prove 'temporary' – this may well turn out to be correct. The point we want to make is merely this: central banks on a mission to pump always have excuses ready when prices rise as to why that is 'meaningless' or 'temporary'. The history of past central bank interventions is replete with similar examples. In reality, this is just a guessing game however. The Fed can not predict the future demand for money and hence can not predict when the vast increase in the money supply it has engendered will impinge on the so-called 'general price level'.

Moreover, it is in any case vain to focus on a specific type of 'consumer price index' (the Fed watches the PCE, the 'personal consumption expenditure' index, which perhaps not surprisingly is the price index displaying the lowest 'inflation rate' of all the currently extant price level measurement attempts). High energy prices are in fact a symptom of the inflationary policy, no matter how strenuously the Fed may deny it.  What happens when a highly inflationary policy is pursued is what Ludwig von Mises called a 'price revolution'. It is the entire structure of prices in the economy that is altered in a manner that would not have been evident absent the inflationary policy.

 

Illusory Prosperity and Capital Consumption

This 'price revolution' – the alteration of relative prices within the economy – has very real effects. As we have pointed out numerous times in these pages on the occasion of previous Fed decisions, on the surface, these effects will often register as an 'economic recovery' or as 'economic growth'. The data the government collects, such as GDP growth and unemployment data will show an improvement. However, as the bulk of this economic improvement has been 'bought' with money from thin air (as opposed to genuine savings out of preceding production), what we are really witnessing is capital consumption masquerading as 'growth'. There was no better example illustrating this concept than the housing bubble. All those who were calling the economic upswing a dangerous illusion in the period 2004-2007 were derided as curmudgeons and even cranks. And yet, who can doubt for even a moment in hindsight that they were correct, and that the boom in fact consumed scarce capital, instead of, as the Fed and the economic mainstream maintained 'creating wealth'?

In hindsight we know for instance beyond a shadow of doubt that the vast accounting profits recorded by real estate developers and banks were merely masking the losses that would later be realized. The reality of the matter is that these accounting profits were a fiction: numbers that had no meaning, as economic calculation had been falsified by the Fed's easy monetary policy. Why would anyone think that today is any different? Are our memories that short?

 


 

The ratio of spending on business equipment (capital goods) vs., spending on consumer goods production. It has never been more out of whack than today. Note that the economy tries to adapt whenever recessions hit – the ratio tends to decline during downturns, as the production structure is shortened again – click chart for better resolution.

 


 

The chart depicted above is the best way we can illustrate what we have said above. The price revolution has led to resources increasingly being allocated – on a relative basis –  to the production of capital equipment while being withdrawn from the production of consumer goods.

Of course this is only a very rough way of looking at things. Since these are aggregations (we don't know which capital goods are produced, or the production of which consumer goods precisely is being neglected), they tell us less than we would like to know.

However, as a rough guide this ratio chart remains quite useful: it conveys the information that the productive structure has been lengthened due to the credit and money supply expansion and the low interest rate environment the Fed has engendered. Since this lengthening of the production structure has not been supported by an increase in real savings, it will prove unsustainable: in all likelihood more final goods are now tied up in production than this altered production structure can actually provide.

You will notice on this chart that the ratio tends to make peaks close to the beginning of recessions. Since its current peak is above even the year 2000 and year 2007 peaks, the economy is likely dangerously imbalanced. In short, the balance between savings, investment, production and consumption is discoordinated due to the Fed's easy money policy.

 

Market Reaction – Risk Remains High

Titles to capital – i.e., stocks – tend to 'like it' when this happens. Their prices rise sharply, which is yet another effect of the 'price revolution'. It would be a serious error however to interpret this as evidence that the economy is truly improving on a structural level. It is simply an off-shoot of the same effect that leads to the misallocation of capital depicted above.

Nevertheless, the stock market 'broke out' yesterday following the FOMC announcement, the publication of the 'bank stress test' (which saw 15 of 19 TBTF banks tested pass, which will enable them to raise their dividends and increase share buybacks) and a 'better than expected' reading of economic confidence data in Germany. Moreover, European credit markets continued to enjoy easier conditions, in conjunction with Fitch upgrading Greece's government debt to 'B-' from 'restricted default' following the PSI deal.

 


 

Economic confidence in Germany increases, with the 'ZEW' index rising a better than expected 16.9 points in March –  the highest level since June 2010.

 


 

The S&P 500 index breaks out above the lateral level of resistance established in 2011. However, the rally continues to be marred by the fact that trading volume has been steadily declining – click chart for better resolution.

 


 

Gold once again sold off – and as can be seen below, platinum has returned to trading at a slight premium over gold, which signifies an improvement in economic confidence. In turn, improving economic confidence is regarded as a negative factor for gold, as it reduces the likelihood of more monetary pumping. So it is currently held, anyway (we actually don't believe the likelihood of more monetary pumping has been significantly reduced, as the increase in economic confidence will likely prove ephemeral).

 


 

The platinum-gold ratio: platinum once again trades at a premium over gold, a sign that economic confidence is waxing – click chart for better resolution.

 


 

As a result of these developments, gold stocks have become the worst performing sector of the stock market, in spite of enjoying record profit margins. It seems the market expects further declines in the price of gold, as gold stocks are about to break below the lateral support line of an 18 month long consolidation:

 


 

Gold stocks are headed for their lowest weekly close in 18 months – click chart for better resolution.

 


 

Whether this assessment will prove correct remains to be seen – as noted previously, sentiment on the gold sector is extremely bearish at present and usually this means that a medium term low is not too far away. However, it is what it is for now – from a technical perspective, the sector looks very negative and sentiment after all simply follows prices to a certain degree.

A breakdown below the support that has been established over the past 1 ½ years would look very negative – it would likely signify that the consolidation period was really an extended distribution top.

The US dollar meanwhile – likely based on similar considerations, namely that US economic performance is strengthening relative to that of other nations – continues to rally. It sports a very constructive chart picture at the moment, but there remains a fly in the ointment, namely the fact that futures traders remain very much 'net long' the dollar.

 


 

The dollar index resumes its rally and the chart continues to look constructive – click chart for better resolution.

 


 

The bond market is also slowly beginning to reflect waxing economic confidence and rising inflation expectations, in spite of the distortions introduced by 'Operation Twist':

 


 

US treasury note: beginning to break down? – click chart for better resolution.

 


 

As to the recent stock market strength, we want to point out the following: in spite of the impressive move higher, there are a number of things that should concern bulls. Apart from frothy sentiment, there continues to be a Dow Theory divergence, as the Transportation Average fails to confirm the new highs in the Industrial Average. Even bigger divergences exist with overseas stock markets. Europe, Australia, Canada as well as the MSCI World index all fail to confirm the breakout in the SPX.

 


 

Contrary to the SPX, the Australian All Ordinaries index not only has failed to break out,  but actually looks like it's about to break down – click chart for better resolution.

 


 

The IEV Europe 350 ETF – it too fails to confirm the breakout in the SPX – click chart for better resolution.

 


 

The Transportation Average fails to confirm the breakout in the Industrial Average – click chart for better resolution.

 


 

We conclude that in spite of the breakout in the SPX and the impressive stock market rally following the FOMC decision, risk in the stock market remains extraordinarily high. This is no time for complacency, even though the breakout will likely produce some 'follow through' buying on technical grounds.

Caveat Emptor. 

 

 

Charts by: StockCharts.com, ZEW, St. Louis Federal Reserve Research


 
 

Emigrate While You Can... Learn More

 
 

 
 

Dear Readers!

It is that time of the year again – our semi-annual funding drive begins today. Give us a little hand in offsetting the costs of running this blog, as advertising revenue alone is insufficient. You can help us reach our modest funding goal by donating either via paypal or bitcoin. Those of you who have made a ton of money based on some of the things we have said in these pages (we actually made a few good calls lately!), please feel free to up your donations accordingly (we are sorry if you have followed one of our bad calls. This is of course your own fault). Other than that, we can only repeat that donations to this site are apt to secure many benefits. These range from sound sleep, to children including you in their songs, to the potential of obtaining privileges in the afterlife (the latter cannot be guaranteed, but it seems highly likely). As always, we are greatly honored by your readership and hope that our special mixture of entertainment and education is adding a little value to your life!

   

Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke

   
 

One Response to “The FOMC Statement – A Comment on Current Policy and its Effects”

  • rodney:

    Pater,

    Can you explain why ‘Inflation falsifies economic calculation’?

    In a previous article you said:

    Rapid inflation makes it impossible for entrepreneurs to correctly appraise the future. As a result, they pull back from productive investment and begin to hoard cash, precisely what we have observed in recent years.

    Can you explain how this works?

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • snake-charmerGold Price Skyrockets in India after Currency Ban – Part III
      When Money Dies In part-I of the dispatch we talked about what happened during the first two days after Indian Prime Minister, Narendra Modi banned Rs 500 and Rs 1000 banknotes, comprising of 88% of the monetary value of cash in circulation. In part-II, we talked about the scenes, chaos, desperation, and massive loss of productive capacity that this ban had led to over the next few days.   Indian prime minister Narendra Modi – another finger-wagger, as can be seen in this...
  • wads-of-cashGold Price Skyrockets in India after Currency Ban – Part II
      Chaos in the Wake of the Ban Here is a link to Part 1, about what happened in the first two days after India's government made Rs 500 (~$7.50) and Rs 1,000 (~$15) banknotes illegal. They can now only be converted to Rs 100 (~$1.50) or lower denomination notes, at bank branches or post offices. Banks were closed the first day after the decision. What follows is the crux of what has happened over the subsequent four days.     India's prime minister Nahendra Modi, author of the...
  • shopGold Price Skyrockets in India after Currency Ban – Part IV
      A Market Gripped by Fear The Indian Prime Minister announced on 8th November 2016 that Rs 500 and Rs 1,000 banknotes would no longer be legal tender. Linked are Part-I, Part-II and Part-III updates on the rapidly encroaching police state. The economic and social mess that Modi has created is unprecedented. It will go down in history as an epitome of naivety and arrogance due to Modi’s self-centered desire to increase tax-collection at any cost.   Indian jewelry...
  • very-bad-boyA Note on Gold and India – What is Driving the Gold Price?
      Hidden Motives It is well-known that India's government wants to coerce its population into “modernizing” its financial behavior and abandoning its traditions. The recent ban on large-denomination banknotes was not only meant to fight corruption.   Obviously, this very bad Indian has way too much cash. Just look at him, he looks suspicious! Photo via thenewsminute.com   In fact, as our friend Jayant Bhandari has pointed out, fresh avenues for corruption ...
  • sittingWill Trump Do What Reagan Couldn’t?
      Depravity and Degeneration BALTIMORE – Finally, it’s over. We were both delighted and appalled by the news. A smile spread over our face... and our steps lightened... as we looked ahead to four years without Hillary Clinton’s know-it-all mug in the news.   Praise be! This mug will be largely missing from the airwaves and the intertubes in coming years. And your caption scribbler PT won't have to look for a fall-out shelter! We thank the Lord and the American public for...
  • gold-pm-fixIndia's Currency Debacle – An Interview with Jayant Bhandari
      A Major Crisis Last week Jayant Bhandari related the story of the overnight ban of certain banknotes in India under cover of “stamping out corruption” (see Gold Price Skyrockets In India after Currency Ban Part 1 and Part 2 for the details).   Banned 500 rupee banknotes   The problem is inter alia that the sudden ban of these banknotes has hit the Indian economy quite hard, given that 97% of all transactions in the country are cash-based. Not only that, it has...
  • winInflation Expectations Rise Sharply
      Mini-Panic Over Inflation After Trump's Election Victory We have witnessed truly astonishing short term market conniptions following the Donald Trump's election victory. In this post we want to focus on one aspect that seems to be exercising people quite a bit at present, namely the recent surge in  inflation expectations reflected in the markets. Will we have to get those WIN buttons out again?   A 1970s “whip inflation now” button. The only thing that was actually needed...
  • vigilantesWill the Swamp Swallow Trump?
      Permanently Skewed TRUMP HOTEL, New York – Trump’s rambling army – professionals, amateurs, camp followers, and profiteers – is marching south, down the I-95 corridor. There, on the banks of the Potomac, it will fight its next big battle.   Lieutenants in Trump's army: Bannon, Flynn & Sessions Photo credit: Drew Angerer / AFP   Here at the Diary, we do not like to get involved in politics. But this is a special time in the history of our planet – a...
  • santorinigreeceThere Are Two Types of Credit — One of Them Leads to Booms and Busts
      Stumped by the Bust In the slump of a cycle, businesses that were thriving begin to experience difficulties or go under. They do so not because of firm-specific entrepreneurial errors but rather in tandem with whole sectors of the economy. People who were wealthy yesterday have become poor today. Factories that were busy yesterday are shut down today, and workers are out of jobs.   What has caused the bust? The modern-day economic orthodoxy continues to be unable to provide...
  • train-to-hellAll Aboard! Trump’s Express Train to the Future
      Free Money! BALTIMORE – Last week, the Dow punched up above 19,000 – a new all-time record. And on Monday, the Dow, the S&P 500, the Nasdaq, and the small-cap Russell 2000 each hit new all-time highs. The last time that happened was on the last day of December 1999.   Ironically, two events that were almost universally expected to trigger large stock market declines were followed by quite rapid and strong gains. Would the market have fallen if Hillary Clinton had won...
  • yellen_duct_tape_7-16-2014_largeGold Bull Market Remains Intact – Long Term Fundamentals Outweigh Short Term Market Gyrations
      A Strong First Half of the Year, Followed by Another Retreat In early 2016 gold had a big bull run. The precious metal rose close to 25% this year, pushed higher in a summer rally that peaked on July 10th. Gold experienced a bumpy ride over the remainder of the summer though, as investors became increasingly concerned about a potential rate hike by the Federal Reserve. Uncertainty returned to gold market and has intensified further since then.   Initially, gold rallied sharply...
  • david_stockman_0Too Early for “Inflation Bets”?
      The Trump Trade After 35 years of waiting... so many false signals... so often deceived... so often disappointed... bond bears gathered on rooftops as though awaiting the Second Coming. Many times, investors have said to themselves, “This is it! This is the end of the Great Bull Market in Bonds!”   The long bond's long cycle – red rectangles indicate when the post 1980 bull market was held to be “over” or “over for sure” or “100% over”, etc.  We have...

Austrian Theory and Investment

Support Acting Man

Own physical gold and silver outside a bank

Archive

j9TJzzN

350x200

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com