The Federal Reserve Is Playing A Dangerous Game....A Game They Will Lose

[FaninAma]

http://www.economics21.org/commentary/feds-dangerous-game

http://articles.businessinsider.com/2011-04-11/markets/29992888_1_stock-market-asset-prices-inflation-monster

I guess one may need to define the term "winning" since its meaning can be subjective.

If the Fed continues to shovel monetary stimulus into the markets at the current rates it runs the risk of having the US Dollar index break down below key support areas which would lead to massive inflation.

If they withdraw or even slow down their monetary stimulus they run the risk of having the housing and equity markets re-tank with the possibility that development may spark a deflationary spiral.

I guess for Star Trek fans the Fed chairman, Ben Bernanke, has found himself in a Kobayashi-Maru scenario.

[FaninAma]

BTW, I think Bernanke will declare victory if he achieves re-inflation of the housing and equity markets without the USD totally breaking down. I don't see how he can do it without help from the big Wall Street banks using their massive derivative arsenal to prop up the price of the dollar. And we all know how well it played out the last time the big bankasinos pulled out their derivatives and stepped all over them in the housing debacle.

[rock on sooner]

http://www.economics21.org/commentary/feds-dangerous-game

http://articles.businessinsider.com/2011-04-11/markets/29992888_1_stock-market-asset-prices-inflation-monster

I guess one may need to define the term "winning" since its meaning can be subjective.

If the Fed continues to shovel monetary stimulus into the markets at the current rates it runs the risk of having the US Dollar index break down below key support areas which would lead to massive inflation.

If they withdraw or even slow down their monetary stimulus they run the risk of having the housing and equity markets re-tank with the possibility that development may spark a deflationary spiral.

I guess for Star Trek fans the Fed chairman, Ben Bernanke, has found himself in a Kobayashi-Maru scenario.

Capt. Kirk did beat the scenario, tho....

[FaninAma]

Capt. Kirk did beat the scenario, tho....

But did he really or did he cheat? Is cheating allowed in the economic system? If it is who is getting the shaft? (Nevermind, we all know the answer to the last question).

[rock on sooner]

BTW, I think Bernanke will declare victory if he achieves re-inflation of the housing and equity markets without the USD totally breaking down. I don't see how he can do it without help from the big Wall Street banks using their massive derivative arsenal to prop up the price of the dollar. And we all know how well it played out the last time the big bankasinos pulled out their derivatives and stepped all over them in the housing debacle.

I'm not real knowledgeable about derivatives, but did see a report that housing
prices are moving up and overall housing is looking up. Also, since the stock
markets are doing so well doesn't that indicate the equities are pretty strong?

[rock on sooner]

But did he really or did he cheat? Is cheating allowed in the economic system? If it is who is getting the shaft? (Nevermind, we all know the answer to the last question).

Yup, James Tiberius Kirk cheated and admitted he did. In the economic
system, cheating goes on all the time, even after all the new regs put in
to try and stop it. The shaft?...Well, let's one and all just bend over....

[Boomer.....]

So the Fed is planning to keep throwing money at things which will lead to inflation of the dollar. Is it eventually going to lead to a similar collapse of the market/economy like in 2008?

[FaninAma]

I'm not real knowledgeable about derivatives, but did see a report that housing
prices are moving up and overall housing is looking up. Also, since the stock
markets are doing so well doesn't that indicate the equities are pretty strong?

Equity earnings are horrible. The bellweather stocks of Intel, FedEx and Catepillar have reported terrible earnings. They heralded the last market decline in 2008. Alcoa announces earnings next week and it is another bellweather stock that is expected to disappoint.

The housing market is no longer falling in terms of starts and prices but the bar has been set very low. In addition you have to consider the small improvement with the knowledge that it was accomplished with record low interest rates for the past 3+ years. Home builders are reporting higher earnings but again that has to be considered in light of the fact that a lot of home builders went bankrupt after 2008 so the competition is much less for the remaining demand and , again, the interest rates have been at record lows for a while.

The bottom line is that the positive bump in both of these markets has been mainly due to the fact that the Fed has pumped trillions of dollars into these areas via QE1, QE2, Operation Twist and QE3(into infinity).


The funny thing is that just today Morgan Stanley was calling for QE4 because they felt QE3 wasn't going to be enough. This begs the question of where is the disembarking point for the Fed? It's sort of just like the corner the federal government has painted itself into with entitlements. The dependency of corporate America on Fed largesse and the dependency of a large part of American society on government largess cannot be stopped or reduced without a great deal of turmoil and pain.

[8timechamps]

BTW, I think Bernanke will declare victory if he achieves re-inflation of the housing and equity markets without the USD totally breaking down. I don't see how he can do it without help from the big Wall Street banks using their massive derivative arsenal to prop up the price of the dollar. And we all know how well it played out the last time the big bankasinos pulled out their derivatives and stepped all over them in the housing debacle.

If he declares victory on anything to do with the current climate, he should be hung. They are definitely on the brink right now. I'm not sure I follow your thinking on the Wall Street banks and pulling out their derivatives though. Wall Street created a cluster**** with CDOs, and it came back to bite 'em. They didn't "pull" anything out, they got exposed for creating junk, then selling insurance on the junk.

[KantoSooner]

Do you believe Bernanke will try to devalue the national debt through inflation?

[FaninAma]

So the Fed is planning to keep throwing money at things which will lead to inflation of the dollar. Is it eventually going to lead to a similar collapse of the market/economy like in 2008?

Possible scenarios:
1.The Fed stimulus re-inflates the markets with moderate inflation. Unlikely seeing as how aggressive QE3 was and the fact people are already calling for QE4.

2.The Fed re-inflates the markets but gets significant inflation(dollar depreciation) which leads to loss of purchasing power by the average citizen meaning any benefit to the economy would be temporary and last only as long as the Fed is printing money. This is the most likely scenario in my opinion. Also, in this scenario the Fed is forced to continue pumping stimulus into the economy and each time they do it it becomes less and less effective which eventually leads to :

Scenario 3. The Fed's currrent and future QE programs fail and asset prices fall drastically leading to a deflationary death spiral where most of the debt and values of assets associated with that debt collapse. I think we eventually arrive here but it will be delayed as long as possible by those in power.

The Catch-22 they find themselves in is that the longer they try to artificially prop up prices and delay the collapse of debt(which is a normal part of the economic cycle) the harder the crash will be.

[FaninAma]

If he declares victory on anything to do with the current climate, he should be hung. They are definitely on the brink right now. I'm not sure I follow your thinking on the Wall Street banks and pulling out their derivatives though. Wall Street created a cluster**** with CDOs, and it came back to bite 'em. They didn't "pull" anything out, they got exposed for creating junk, then selling insurance on the junk.

It is estimated 80% of JPM-Chases derivative portfolio is in the area of currency futures. They will use this nuclear weapon to manipulate the currency markets and prop up the value of the dollar. I think we will get a clue as to how precarious the situation is becoming when the Chinese panic and decouple their currency from the US dollar.

[8timechamps]

It is estimated 80% of JPM-Chases derivative portfolio is in the area of currency futures. They will use this nuclear weapon to manipulate the currency markets and prop up the value of the dollar. I think we will get a clue as to how precarious the situation is becoming when the Chinese panick and decouple their currency from the US dollar.

Thanks for the clarification, I'm following you now. I've seen a lot of derivatives, and my opinion is that they are just like buying B shares of a mutual fund...they are created to make the person selling them money.

On a side note, I remember being a rookie broker and listening to a REIT wholesaler presentation. He led off his presentation with a chart, and a whole speech about how Real Estate was "decline proof". He said something along the lines of "in recorded history, if you have invested in real estate, you've never had a down year, it's decline proof!". In my business, that was as close to a "guarantee of future performance" as you could legally get, and turned out to be pretty bad on his part (and the part of anyone that went whole-hog into it).

[FaninAma]

Do you believe Bernanke will try to devalue the national debt through inflation?

That is the Keynesian economists' assertion and goal. The problem is if inflation is too high or the government engages in an excessive level of deficit spending the cost of servicing the debt soon becomes a huge problem. If we get an increase in interest rates and US Treasury bond rates the cost of servicing our debt will be problematic. That is another reason that the QE programs were started.....to buy US Treasuries and create an artifical demand as an attempt to keep down the interest rate our government pays on its debt instruments. So again, if the Fed ever stops with its stimulus programs the demand for US treauries will fall and the rate will necessarily have to go up to attract buyers.

[sheepdogs]

The fed is trying to create inflation as they see it the lesser of two evils as they are trying to get 'real' interest rates into the positive spectrum. Higher rates would only create higher debt servicing w/respect to future bond issuing and not past sales as the past sales are already locked into a stated rate which is rather miniscule.

[FaninAma]

The fed is trying to create inflation as they see it the lesser of two evils as they are trying to get 'real' interest rates into the positive spectrum. Higher rates would only create higher debt servicing w/respect to future bond issuing and not past sales as the past sales are already locked into a stated rate which is rather miniscule.

This article shows how dramatically the service on the debt will increase with even a 1 point a year rate increase:
http://blogs.reuters.com/james-pethokoukis/2011/07/07/u-s-debt-crisis-might-be-on-fast-track/

[sheepdogs]

^ There's no way for the nation to reachieve prosperity w/o higher borrowing costs.

[FaninAma]

^ There's no way for the nation to reachieve prosperity w/o higher borrowing costs.

So it appears we are at an impasse. Raise rates and the government debt service costs explode and the equity market bubble pops.

I honestly don't think the Fed can re-inflate a consumer economy. Debt has to be allowed to collapse. That is a natural economic cycle. It happens on a regular basis. What the Fed and central banks have done is delay that normal cycle which has allowed more and more debt to build up so that when the debt blow-off part of the cycle finally happens it will be more painful and damaging.

[FaninAma]

Please consider that Japan has had a form of quantatative easing since the 90's but they have failed to reinflate asset values including their equity market as shown in this graph.
http://investing.money.msn.com/investments/stock-charts/?compsyms=&D4=1&DD=1&D5=0&DCS=2&MA0=0&MA1=0&CP=1&C5=1&C5D=1&C6=1990&C7=9&C7D=25&C8=2012&C9=-1&CF=0&D7=&D6=&showchartbt=Redraw+chart&PT=7&symbol=%24JP%3AN225&SZ=0&nocookie=1

[Bourbon St Sooner]

You may be right about the deflationary death spiral Fan, bit I'm putting my money on hyperinflation. I think that the Fed will continue to print money till the cows come home to prevent deflation. Load up on stocks and ride the liquidity bubble.

[FaninAma]

You may be right about the deflationary death spiral Fan, bit I'm putting my money on hyperinflation. I think that the Fed will continue to print money till the cows come home to prevent deflation. Load up on stocks and ride the liquidity bubble.

I think you are right in the very short term. But when the asset deflation starts you need to be quick and readjust your portfolio. The scarey thing about the current equity market rise is that it is taking trillions of dollars from the Fed to get it to rise 10% and the effects of the Fed stimulus seems to be producing less of a response. I have some commodity holdings that are up 12.6% for the year. So much for the "there's no signs of inflation" premise.

[KantoSooner]

Which commodities are these? (honest curiousity). I'd've thought that the slow down in Chinese/global manufacturing would have cooled demand. Are these demand driven rises? Or speculative? If the latter, where is the physical storage going on?

[FaninAma]

Which commodities are these? (honest curiousity). I'd've thought that the slow down in Chinese/global manufacturing would have cooled demand. Are these demand driven rises? Or speculative? If the latter, where is the physical storage going on?

I should have specified....a general mixed commodity fund that purchases stocks of comapnies in the commodity sector(Ag, metals, energy) as well as some commodity ETFs like SLV. I haven't purchased physical commodities since 2010 and only hold a small ampount of metals.

The only reason it is going up, IMO, is because of Fed policy.

[8timechamps]

I should have specified....a general mixed commodity fund that purchases stocks of comapnies in the commodity sector(Ag, metals, energy) as well as some commodity ETFs like SLV. I haven't purchased physical commodities since 2010 and only hold a small ampount of metals.

The only reason it is going up, IMO, is because of Fed policy.

Are you referring to your holdings, or the equity market?

If you mean the equity market, I'd have to disagree.

[FaninAma]

Are you referring to your holdings, or the equity market?

If you mean the equity market, I'd have to disagree.

The equity market is going up only because of the stimulus the Fed is pumping into the bond and mortgage backed security markets. The S&P is way over-valued for an economy that has this level of unemployment and weak GDP. Plus, I follow the markets closely enough that it became apparent that 80% of the market rise came during the week prior to a Fed announcement because the traders that dominate the current equity markets were anticipating another round of monetary easing. Equities are just another asset class. As such they will increase in price along with other hard assets as inflationary measures are undertaken by the government and Fed.

But go ahead and tell me why you think the equity markets are rising. It should be interesting.