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
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.
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.
Charts by: StockCharts.com, ZEW, St. Louis Federal Reserve Research
Dear Readers! We are happy to report that we have reached our turn-of-the-year funding goal and want to extend a special thank you to all of you who have chipped in. We are very grateful for your support! As a general remark, according to usually well informed circles, exercising the donation button in between funding drives is definitely legal and highly appreciated as well.
Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke
One Response to “The FOMC Statement – A Comment on Current Policy and its Effects”
Most read in the last 20 days:
- Reality is a Formidable Enemy
Political Correctness Comedy We have recently come across a video that is simply too funny not be shared. It also happens to dovetail nicely with our friend Claudio's recent essay on political correctness and cultural Marxism. Since this is generally a rather depressing topic, we have concluded that having a good laugh at it might not be the worst idea. How to most effectively create a “safe space” on campus Cartoon by Nate Beeler It is especially funny (or...
- Fresh Mainstream Nonsense on Gold Demand
They Will Never Get It... We and many others have made a valiant effort over the years to explain what actually moves the gold market (as examples see e.g. our article “Misconceptions About Gold”, or Robert Blumen's excellent essay “Misunderstanding Gold Demand”). Sometimes it is a bit frustrating when we realize it has probably all been for naught. Gold wants to know what it has done now... Photo credit: Ajay Verma / Reuters This was brought home to...
- Drowning the Fir
Presidential Duties Our editor recently stumbled upon an image in one of the more obscure corners of the intertubes which we felt we had to share with our readers. It provides us with a nice metaphor for the meaningfulness of government activity. First, here is a look at the picture – just quietly contemplate it for while and let it work its magic on you: Yes, these two gentlemen are actually watering a tree in the middle of a downpour... Photo via...
- The Wonder Years Are Over
Everybody Is Unhappy PARIS – “France?” We were in a cab on the way from Charles de Gaulle Airport yesterday. We had innocently asked our cab driver how things were going in the country. He had some thoughts... French president Francois Hollande: against all odds, he managed to attain the most powerful position in French society. And yet, even he is unhappy. Photo credit: Patrick Kovarik / AFP “France is a mess. We have 5 million people unemployed. And...
- Gold – The Commitments of Traders
Commercial and Non-Commercial Market Participants The commitments of traders in gold futures are beginning to look a bit concerning these days – we will explain further below why this is so. Some readers may well be wondering why an explanation is even needed. Isn't it obvious? Superficially, it sure looks that way. As the following chart of the net position of commercial hedgers illustrates, their position is currently at quite an extended...
- Corporate Tax Receipts Reflect Economic Slowdown
Tax Receipts vs. the Stock Market Following the US Treasury's update of April tax receipts, our friend Mac mailed us a few charts showing the trend in corporate tax payments. Not surprisingly, corporate tax payments and refunds mirror the many signs of a slowing economy that have recently emerged. An overview in chart form follows below. First up, corporate tax receipts in absolute figures. Corporate tax receipts in absolute dollars and cents – this is quite astonishing...
- Heretical Thoughts and Doing the Unthinkable
Heresy! NORMANDY, France – The Dow rose 222 points on Tuesday – or just over 1%. But we agree with hedge-fund manager Stanley Druckenmiller: This is not a good time to be a U.S. stock market bull. Legendary former hedge fund manager Stanley Druckenmiller at the Ira Sohn conference – not an optimist at present, to put it mildly. Photo credit: David A. Grogan / CNBC Speaking at an investment conference in New York last week, George Soros’ former partner...
- Staying Home on Election Day
Pretenses and Conceits The markets are eerily quiet… like an angry man with something on his mind and a shotgun in his hand. We will leave them to brood… and return to the spectacle of the U.S. presidential primaries. On display are all the pretenses, conceits, and absurdities of modern government. And now, the race narrows to the two most widely distrusted and loathed candidates. US election circus: Deep State Rep vs. Rage Channeller The first, a loose...
- The World's 100 Most Influential Hacks, Yahoos and Monkey Shiners
Hacks and Has-Beens NORMANDY, France – What has happened to TIME magazine? Henry Luce, who started TIME – the first weekly news magazine in the U.S. – would be appalled to see what it has become. Time cover featuring the sunburned mummy heading the globalist IMF bureaucracy (which inter alia advocates that governments should confiscate a portion of the wealth of their citizens overnight, even while its own employees don't have to pay a single cent in taxes). Once you...
- A Trump Landslide in November?
Objective Reality After spending three weeks with objective truth at the ranch, we are now forced to return to the world of myths, delusions, and claptrap. Yes, we are in Buenos Aires looking at a TV! And there they are... talking about the world of politics, money, culture... the world of Facebook and CNBC... of Trump and Clinton... of ZIRP and NIRP... and of Game of Thrones. The royal seating accommodation fought over in “Game of Thrones”. It looks decidedly...
- Kuroda-San in the Mouth of Madness
Deluded Central Planners Zerohedge recently reported on an interview given by Lithuanian ECB council member Vitas Vasiliauskas, which demonstrates how utterly deluded the central planners in the so-called “capitalist” economies of the West have become. His statements are nothing short of bizarre (“we are magic guys!”) – although he is of course correct when he states that a central bank can never “run out of ammunition”. BoJ governor Haruhiko Kuroda Photo credit:...
- How the Deep State’s Cronies Steal From You
Expanding in Ireland DUNMORE EAST, Ireland – We came down the coast from Dublin to check on our new office building. For this visit, we wanted to stay somewhere different than we normally do. So we chose a small hotel on the coast, called the Strand Inn. Irish landscape with alien landing pads. Even the guys from Rigel II have heard about Ireland's corporate tax rate. Photo credit: Tourism Ireland It is an excellent place for seafood and soda bread on a...