Powell Could Have a Thunderbolt Up His Sleeve

08.11.2017 • United Kingdom

Andrew Lockley – Capital and Conflict (United Kingdom) –

A new high for the stockmarket. Huzzah!

Which one? Lots of them!

The FTSE 100 hit an all-time high yesterday. The French and German indices last week. The Nasdaq broke an all-time record with 63 all-time highs this calendar year so far.

You’d think our economies are roaring along. Or that some new technology has revolutionised industry. Perhaps geopolitical risk has tumbled. Or corporate earnings are booming.

But none of those things are true.

Economic growth is pretty sluggish. There haven’t been any tech revolutions to alter our economies – productivity is doing poorly. Political risks are surging in every market I can think of.

Fund manager John Hussman explained that “the current market extreme is the broadest episode of extreme equity market overvaluation in history.” So company earnings aren’t keeping up with stockmarket prices either.

Yet the market rallies on…

Why?

And why should you care what’s making stocks go up? As long as they go up, who cares about why?

Well, figuring out what’s behind the rally is important if you want to figure out when the rally will end.

Perhaps the answer lies in the trillions of dollars being pumped into financial markets. And the potential for many trillions more to follow if the market stops going up. That’s what I argued in my conference speech, which you can access now by clicking here.

If that were true, you’d have to pay close attention to the decision-makers to figure out when the bonanza ends. It’s the new gods of finance – central bankers – who are pumping up the stockmarket with their infinite budgets.

But there’s an important change coming to their leadership group. Could this spell the end of the rally?

 

The new Zeus

There’s a new god atop Mount Olympus. Jerome Powell will be Donald Trump’s nominee for next chair of the Federal Reserve. Given the Fed’s importance, he’ll be the new Zeus of central banking gods.

“Jay” has yet to pass the lengthy approvals process in the US Senate. But that shouldn’t be a problem. He was chosen for his lack of controversy and similarity to the outgoing Janet Yellen. He never once dissented from her decisions during his time on the Board of Governors. And he hasn’t criticised the side-effects of her policies either.

The buzzword of the nomination seems to be “continuity”. Which makes sense given how much time the stockmarket gets on Trump’s Twitter feed.

I know what you’re thinking. “Continuity” is very unlike Trump. What happened to “drain the swamp”? Well, just because his nominee’s monetary policy leanings aren’t controversial, doesn’t mean there isn’t any controversy.

Take for example the decision not to continue with Yellen at the helm. She’s the first chair not to get a second term since 1979, and the first female chair ever. That’s an utterly outrageous combination if you believe people are defined by their gender. Which Trump’s fiercest detractors do.

Then there’s the lack of an economics PhD on Powell’s resume

He’s the first in about 40 years to make it to the top without one. Instead, he has private sector experience with Carlyle Group and US Treasury experience too. Having a practitioner of finance and government at the helm of a monetary institution filled with academics is going to make things interesting.

There’s a lot you can read between the lines from Powell’s appointment. Trump passed over two candidates for interesting reasons.

One dumped candidate, John Taylor, spent his academic career theorising about rules-based monetary policy, and the valuation of the stockmarket. Both analytical tools he devised suggest there’s a deep problem with today’s monetary policy. Rates are too low and stocks vastly overvalued, probably because of the rates. Hiring someone who might believe in their lifetime’s work and therefore crack down on interest rates and the stockmarket looked like a bad idea. So Taylor wasn’t chosen.

The other contender, Kevin Warsh, was a little more straightforward. He declared at a Bank Credit Analyst conference that the Fed had become the “slave” of the stockmarket. It’s the sort of slavery that Trump likes. So Warsh didn’t make the cut either.

How times have changed since previous chair Ben Bernanke told the Fed’s board in an emergency meeting at the height of the financial crisis, “Obviously it’s not our job to target stock values or to protect stock investors.” How wrong he was. These days you don’t get nominated to lead the Fed if you say something like that.

But Jay Powell may not be as boring as he looks

Consider, for example, the fact that he never gave speeches about interest rates during his term on the Fed board. Perhaps he has some interesting views to make known.

The speeches he did give focused on bank regulation, which he thinks may have gone too far, and the functionality of the US payments system. He wants to move away from the London-based Libor interest rate as the global reference rate for trillions of dollars’ worth of contracts.

Thanks to his knowledge of financial markets, as opposed to monetary policy making, the Financial Times called him a plumber. That’s bad news for you if there’s a crackdown on financial privacy. Yesterday I got a call from HSBC to update my address details for the last three years. It took about an hour before the customer service representative gave up. We can expect more of the same nonsense as the world’s regulators tighten the screws.

The most interesting aspect in all this is that Powell is far from the only change happening at the Fed. Thanks to a bundle of retirements and terms ending, Trump could be in a position to pick five new governors out of a total of seven if Yellen quits too, having been passed over for another term.

Change could be coming to the world’s most powerful institution. We’ll keep an eye on it.

What the gods of central banking are like behind closed doors

Keep in mind what these extraordinarily intelligent people actually spend their time doing. Here’s an excerpt from a book written by former insider Danielle DiMartino about how a meeting of the Federal Open Market Committee (FOMC) goes down when deciding interest rates:

Those participating in the discussion about the crafting of the FOMC statement included Bernanke, Geithner, Fed governors Randall Kroszner, Kohn, Mishkin, and Warsh, Fed District Bank presidents Charles Evans (Chicago) and Dennis Lockhart (Atlanta), and Fed secretary Madigan.

KOHN: On inflation expectations, because they haven’t risen very much, I agree with President Geithner. I like the fact that we tell people we are aware, but we could say “have edged higher” or something like that instead of “risen.”

MISHKIN: We could use my “smidgen” word, but “edged higher” is better.

KOHN: Went up a smidge.

CHAIRMAN BERNANKE: All right. President Evans.

EVANS: “Edged higher” is an unusual phrase.

MISHKIN: “Have risen somewhat”?

MADIGAN: I think an issue with “edged higher” is that it really does sound as though you have some very specific measures in mind.

CHAIRMAN BERNANKE: Brian, do you have a thought on “risen” versus “risen somewhat” versus taking it out?

MADIGAN: I think if you take it out that very much raises the question of what to do with that language in red about the factors that would push inflation down. It would be tough to drop the inflation expectations thought and not have inflation expectations mentioned anywhere in the paragraph. There would just be vacant space where you had, at least in previous minutes, referred to it.

CHAIRMAN BERNANKE: Anyone else? Bill.

DUDLEY: Adding just the word “slightly”—“ risen slightly”— gets to your point.

MISHKIN: “Slightly” or “somewhat” risen.

WARSH: Brian, does “somewhat” mitigate it a little, or does that highlight it?

MADIGAN: I’m not sure. I mean, in my mind it mitigates it.

VICE CHAIRMAN GEITHNER: Somewhat.

KROSZNER: Is “slightly” better than “somewhat”?

KOHN: “Somewhat” is bigger than “slightly.”

EVANS: That is 50 versus 25 [basis points] in the old days.

LOCKHART: Mr. Chairman, if I understand the discussion about this, when you say “some indicators have risen somewhat,” you are getting into territory that seems sort of mealy-mouthed.

CHAIRMAN BERNANKE: Right.

KOHN: “Risen a little”?

KROSZNER: What is wrong with “slightly”?

CHAIRMAN BERNANKE: All right.

And there you have it, a typical FOMC meeting

Now you know why I call them all nincompoops and refer to their policy making as nincompoopery. It is. Author DiMartino sums up the discussion well in her book: “I might have run screaming from the room.”

The thing is, these nincompoops are all that’s keeping the stockmarket and government bond market afloat…

Until next time,

Nick Hubble
Capital & Conflict

-Read more at www.capitalandconflict.com-

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