You could see and hear and just feel Powell's fear and confusion. It was obvious and stunning. Having been punched in the face by inflation, the Fed no longer has a plan. Powell is on the mat, babbling, foaming at the mouth, and bleeding from the nose.
Actually, the Fed never has a plan. It just reacts to whatever the US economy is doing. The Fed believes that by tinkering with monetary policy, the economy will just do what Economic religion says it will do. So the Fed says things that it thinks will impress economists, and then it attempts to make policy fit what it says, expecting the economy will do what the high priests of economism say it will.
It doesn't work that way. The US economy is going to do what it's going to do, based on a myriad of forces and cycles over which the Fed has no control, and no influence. The idea that the Fed is in control is an illusion. It's religion, not fact.
Print money and the economy will expand Economism's high priests say. Yeah, well. Print money, and give it only to banks and speculators, and asset prices will inflate. That is certain, and we've seen it in action not just for the 12 years of QE, but for decades before when the Bank of Japan first did it.
Having the BoJ's example, that's what the Fed did with QE and ZIRP for 12 years. Financial asset prices rose to the moon, and the Fed was happy as shit about it because they and their cronies and clients were getting richer and richer.
A couple of them got caught with their hands in the cookie jar. Tip of the iceberg.
Print money and use fiscal policy to get it in the hands of the general population, and consumer prices and wages will inflate. That's what we've had for the past year. When Covid came along, politicians decided to spend even more money and get some of it in the hands of regular people, lest the politicians lose their jobs. That money didn't exist. The government had to borrow it. Investors didn't have the cash to buy the paper, so the Fed had to print it and give it to the Primary Dealers so that they could buy the government paper. The Fed initially printed double what was needed to buy the new government paper. So the dealers bought stocks too. We were off to the races.
But the government enacted laws to divert money into the pocketbooks of normal people. They started buying stuff. Meanwhile corporate CEOs had been so busy using free money to buy back their company's stocks and unload their self issued stock options in the process, they forgot to invest in growing plant and equipment, and investing in happy labor forces. They forgot to grow the capacity to produce more.
So when the politicians decided to put money in people's pockets the economy was unable to produce enough to meet demand. Voila! Inflation.
Now with financial asset prices beginning to deflate, and interest rates rising, we'll get even less investment in growing production. Eventually the economy will contract violently, but until it does, people will keep spending, and consumer prices will continue to inflate.
Well, the Fed and its backers are none to happy about the fact that consumer prices and wages are rising. That's different from their joy at seeing their own asset prices inflate.
Because the Fed is mandated first to control inflation. Not asset inflation. Consumer price inflation. So it has to do something that the high priests of Economism say will control inflation. Tighten money and raise interest rates.
The Fed's problem is that investors and traders are not impacted by rising interest rates, at least not until they are so high that they're punitive relative to the recent inflation rate of financial assets. But they are impacted by tightening money, and the Fed is aggressively tightening money by reducing its QE purchases from Primary Dealers from $180-200 billion a month gross, in the middle of last year, to zero in March.
That's a draconian, unprecedented tightening BECAUSE the market must still absorb $100-200 billion per month in new Treasury issuance, month after month. That number will shrink to the low end of that range in the months ahead as last year's massive stimulus programs expire. But it remains a gigantic problem because the Fed won't be there to buy any of it.
The Fed had been buying or indirectly funding almost all new issuance. What happens when they're not there to buy even a hundred billion a month in new issuance? The market will choke on that. Bond prices will crater and yields will soar. Margin calls will go out across the firmament and darkness will descend on the markets.
Treasury prices will fall, stock prices fall, and the prices of all financial assets fall because dealers and leveraged speculators must liquidate. Primary Dealers must liquidate because the are REQUIRED to buy more Treasuries at every auction. The Fed was buying all of that from them, cashing them out week in and week out. Now it's taking less than half. Soon it will be zero.
Zero. And then the Fed is talking about shrinking its balance sheet? Fuggedaboutit. That would put even more Treasury supply on the market. It's inconceivable to me that the Fed would even think about it, let alone put the thought out there. It doesn't matter how they do it. The fact that they're thinking about shows just how clueless and delusional they are.
Dealers are feeling it. They no longer have ample cash from the Fed to enable them to absorb new supply without market disruption. They have no choice but sell some of their bond, stock and other inventory to raise liquidity. That drives prices lower, and margin calls go out to everybody else.
Sell Mortimer! Sell!
The Fed is engineering a catastrophe.
Powell said yesterday that the Fed doesn't control the yield curve. That was an obvious prima facie, bald faced lie. Someone should have followed up and asked him, "Hey, asshole, if the Fed doesn't control the yield curve, what the hell was a couple years of Operation Twist all about?"
The slope of the yield curve is irrelevant, but the overall level of yields is not. As they go higher, they are a meter of how tight and distressed the market is. They've been going higher since August 2020. Don't look now, but we've been in a bond bear market for a year and a half. Yields have been rising for that long. They are rising now, and they'll continue to go higher as the Fed tightens money, and the Treasury continues to flood the market with new supply, month in and month out.
The Fed will watch with fear and loathing, but must continue to tighten the screws because of its legal mandate to control inflation. Either Congress must change that mandate, or the Fed must adhere to it.
Powell knows that the wheels are coming off. He has to face Congress. He has to answer for the consequences to come of the Fed's disastrous and evil policies of QE and ZIRP. The Fed has created a monster. Now it, and we, shall all reap the whirlwind.
Primary Dealers No Longer in Remulak
