Notes From Underground: For What It’s Worth

There is a wonderful song from the tumultuous 1960s by the band Buffalo Springfield that is so apropos for the financial markets over the last two weeks (staying away from Kabul). The lyrics for the first two verses describe the situation for investors as we approach the tectonic plates of monetary policy that have provided the Kansas City Fed Symposium at Jackson Hole with its heightened significance. Several keynote speeches revealing policy changes have been delivered to this August group.

“There’s something happening here, But what it is ain’t exactly clear

There’s a man with a printing press over there, telling me I got to beware

There’s battle lines being drawn, nobody’s right if everybody’s wrong

Young people speaking their minds, getting so much resistance from behind”


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Heads of foreign central banks have also delivered critical policy speeches to the economists, journalists and academics that populate Grand Teton National Park. Ben Bernanke in 2010 announced QE2 as a critical tool for promoting what the then-Fed chairman called THE PORTFOLIO BALANCE CHANNEL. The U.S. and global economy was suffering from low consumer demand and of course a lack of investment following the ravages of the SUBLIME DEBT CRISIS. QE2 was an effort to “raise the animal spirits” that Keynes theorized was so important for capitalism to function.

Eleven years on we are still discussing the role QE is taking, at Jackson Hole once again. The question confronting investors and bankers is whether the FED will continue with QE until the inflation levels designed by the FED‘s mandate are met in more than a transitory fashion. Also, the FED has taken on the role of Minister of Justice as it seeks to bring jobs to all those who were battered by COVID-19, “through no fault of their own.” The impact of the crisis has played havoc with the FED achieving its mandates. As the virus spread, unemployment rose dramatically to more than 13% from 3.7%, but has since fallen to 5.4% as the economy has recovered. Many in the Biden Administration — along with Chair Powell — maintain that the REAL UNEMPLOYMENT level is above 9%. The problem for others is that the REAL INFLATION numbers are 4%. So what takes precedence: jobs or prices?

The FED has been supplying $120 billion a month in QE for the last 15 months helping the economy recover while the new administration is actively using FISCAL STIMULUS to ensure consumer demand. Now many FED members have been speaking out that it is TIME TO TAPER THE QE ASSET PURCHASES as there is TOO MUCH LIQUIDITY and it is putting upward pressure on a myriad prices. The most DOVISH FED VOTERS IN THE LAST TWO WEEKS have begun cooing about ending QE faster than previously suggested. WHY? My sense is that the word has come down that QE is not being effective for the liquidity is not being LENT but makes its ways back to the FED as RESERVES. The only sector of the financial system benefiting is the STOCK and BOND markets.

More QE becomes a problem, not a salve. The FOMC put in place at its July meeting a STANDING REPO FACILITY which allows the NEW YORK FED to absorb up to $500 billion in DOMESTIC INSTITUTIONS securities in a new for immediate cash. There’s also a FOREIGN repo pool which is undefined large — up to $60 billion per institution or accepted central bank. This provides a massive pool of READY CASH TO STEM THE MAL-EFFECTS OF ANY TAPER TANTRUM. This gives Powell the flexibility to speed the end of QE without the Bernanke tantrum.

As the highly regarded financial plumber Zoltan Pozsar said in his Global Monetary Dispatch on July 29: “One press headline yesterday read, ‘Fed Surprises Markets with Repo Facility Amid Abundance of Cash.’ We’d say ‘FED Foams the Runway with Repo Facility Ahead of Taper.’ The SRF is a stroke of genius. It generates demand for Treasuries and MBS.It is basically’ financed ‘ QE as opposed to ‘funded’ QE.” As Pozsar explained, FUNDED = BUYING BONDS (and creating permanent reserves). FINANCED QE = the FED creating temporary reserves.

I believe the establishment of the repo facility gives POWELL the latitude to get the useless QE funding without threatening the underlying recovery. The FOMC has been terrified of upsetting the markets since the Bernanke induced TAPER TANTRUM, which then helped expedite the Powell Pivot in January 2019. The G-30 advised the implementation of the Standing Repo Facility to provide an alternative to QE to infinity. With the U.S. EQUITY markets at all-time highs Powell OUGHT to test the theoretical basis of this new tool. Markets will provide opportunities if policy makers have the courage to engage. Mohamed El-Erian in Monday’s Financial Times advised Powell to be BOLD IN JACKSON HOLE, I agree for the Fed chair would be well advised to respect markets rather than just fear them.

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