Wednesday, January 25, 2012

Fed says it will remove income for the next two years. Markets rally.

To show you how perverted and misguided things have gotten.

Suppose you told someone that the government would remove significant amounts of income from the economy over the next two years. You could even call it a tax. Do you think that person would run out and buy stocks and other risk assets?

Absolutely not. They'd probably take whatever cash they had and hang on to it, real tight, out of fear that the economic future was about to become very bleak.

But that was the opposite of how investors reacted to today in response to the Fed's statement.

Here's what the Fed said:

“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.”

That was the surprise in the statement today. The Fed EXTENDED the length of time that they would hold interest rates at zero for more than a year. (They originally said, mid-2013.)

But we know that this policy removes income from the economy. Case in point: over the last four years the Fed has removed $400 bln in interest income from the economy. That's HUGE. That's the equivalent of almost 3% of GDP. And we're only growing at 1.8%!!

Yet when investors hear this today they bought stocks...and gold and commodities and other risk assets. And they sold the dollar even though this is all hugely deflationary.

It's QE Redux. Haven't we been through this before? Everyone piles in on the false belief that this is inflationary. They push up stocks, gold, commodities and foreign currencies and then it all comes tumbling down when the buying stops.

Same, exact thing will happen this time.


Matt Franko said...

Confidence Fairy waved her magic wand Mike ;)

mike norman said...


Joe said...

So Mike, you're saying they should raise interest rates? Opposite of conventional wisdom, but I think I see the logic in it.

Higher interest rates would discourage borrowing, which was what got us in the mess to begin with. But wouldn't most of the interest income go to higher net worth individuals and thus have less stimulative effect than if it went to lower income people?

Tom Hickey said...

TPTB are terrified of housing. They want to keep LT rates low for some time so as many people as possible can refinance at a monthly they can carry.

The US is not out of the crisis yet, and they are well aware of that, since they are in a postion to know what the banks' balance sheets look like. And everyone knows how many people are underwater on their mortgages. They are also aware of global risks beyond their control that can effect the US negatively if things go south.

Павел said...

Hi, Mike! My name is Paul. Your's blog is good, I've read it some months. Just want to say hi and thanks for work. Sorry my English, I'm from damned Russia.
And something else. Whole January we've seen decrease in risk in banking system, and CDS too decreased. But now, I think in couple of days will be some surprise, thanks to fed, and dollar goes up. Look at gold, volume is great at huge movement. It's usually tells about end of short tendency.

Broll The American said...

So if we know the economy is going to continue to slow and bubbles will build in certain commodities, what would be a good strategy for personal investment?

mike norman said...

I'm not saying raise rates. I'm just saying the Fed should stop deluding people with this false premise that low rates are a stimulus. They're not and they're certainly not in a debt deflation like we're going through.

Bernanke should also get off the "fiscal responsibility" bandwagon and tell Congress that fiscal policy is the only way to restore full output and employment.

It's funny, today in his press conference he acknowledged the loss of income from low interest rates, but said that savers and investors are also helped by growth, yet he believes that somehow the zero interest rate policy of the Fed is promoting growth? Isn't there enough evidence here and certainly in Japan, that that's not the case???!@#$%&**

mike norman said...


Sell options, every month. Month in and month out. Take in that income month after month after month, because we are going nowhere for a long time. Sideways. Put on a giant strangle and take in premium forever.

mike norman said...


I think the dollar IS going up. The move is still in its early stages, but it will be long term...very long term!

Павел said...

It's exactly what I wanted to say. January risk on tendency maybe just seasonal. But I don't know yet what can cause the risk off mode. Maybe something with portugal again? Portugal CDS on new high.

mike norman said...

I believe risk off will come from an erosion in the economic data once again. What we are seeing now is Nov-Dec data and that had seasonal strength (hirings, sales, etc). That will fade and questions about the economy, even worries about recession, will surface. And don't forget that at the end of February, the whole entire tax cut debate starts again because the temporary fix that was agreed to in December, will be finished. Could be rancorous.

Ralph Musgrave said...

The idea that low interest rates are deflationary is valid if its new money created by the central bank that funds those payments. But it could be that in some countries, the standard arrangement is that those payments are funded from tax. In that case, interest rate changes would have no effect – at least as far as the “interest payment” effect goes (interest rate changes doubtless have variety of other effects, but I’m ignoring those).

So is there anyone out there who knows something about the relevant arrangements in different countries?