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The Fed, Debt, and the Economy


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My first post here isn't inherently political, but I am going to file it here just the same, since I have an idea how the discussion may go.

I am going to stick to the facts with relatively little editorializing in this first post too.

--The Fed and the world's other major Central Banks have kept interest rates extraordinarily low for almost a decade now and have also been injecting liquidity into the system with asset purchases to a degree that is actually shocking when you look at it. While the US Fed has just begun to reduce the size of its balance sheet (meaning it is now removing liquidity from the system), other central banks continue to buy financial assets. They are doing all of this in the name of fighting deflationary forces. 

--As a result of very low interest rates and Central Banks actually buying things like corporate bonds, the absolute yields on bonds with some real risk are very low and the spreads between bonds of different levels of risk is extremely narrow. This is important because it means risk is being mis-priced because of an artificial mechanism. This has the potential to cause real problems because it encourages all sorts of imprudent or even reckless behavior on the part of both borrowers and bond investors/lenders.

--All of this excess liquidity also has caused financial assets of all types (bonds, stocks, real estate, etc.) to essentially do nothing but go up in value. The result is a massive gain in value of financial assets. That sounds good, but it is artificial. When you actually look at the value of those assets compared to something tangible like incomes or GDP, things start to look a bit dicey. It also has had the affect of greatly expanding the wealth gap between the wealthiest people (who tend to own lots of financial assets) and those who have little financial wealth. It particularly disadvantages renters, since they get left behind by not owning a home and they often get hit with higher rents as well.

--Extremely low interest rates have also encouraged major countries around the globe to pursue deficit spending policies, from the central government level on down to local municipal levels. The result is that many major countries (and Belgium too, apparently, no idea why it is on this chart) have never been more levered.  That particular version of this chart shows the US as less leveraged than it was after the financial crisis, but I am not sure that is true

--But governments are not the only entities that have had an increased appetite for debt while it has been cheap. Corporations around the world have also gorged on debt. Large US corporations (as exemplified by the S&P 500) have never been more leveraged. (Note: EBITDA stands for Earnings Before Interest, Taxes, Depreciation & Amortization, a crude measure of available cash flow for debt service). The US corporate sector as a whole has never had more debt, relative to the size of the economy. Many of these companies have been issuing debt in order to fund stock buy-backs. Financial theory suggests that is the right thing to do, but there are some pretty big real world caveats. One is that if doing so increases risk of insolvency meaningfully, it is probably a pretty bad idea. The second is if they are borrowing money to buy back shares that are grossly overvalued, that tends to be a pretty bad trade over time. 

--One relative bright spot, is that US households aren't quite as indebted as they have been in the past, even if they are deeply in debt relative to a longer history. As bright spots go, that isn't too terribly reassuring.

 

So a decade or so of Central Bank policy has led to an increasing wealth and income disparity and has also led to there being a lot more debt outstanding than there was heading into the 2008 financial crisis. And the compression in rates and yield spreads has also benefited asset speculators and aggressive investors at the expense of savers and conservative investors. The low absolute rates also likely caused many investors (and I don't just mean individuals here, I am talking institutional investors) to accept levels of credit risk in their portfolios that they would have otherwise shunned, because they had to seek some kind of yield. 

Now, after years of Bernanke and Yellin, we have a hawkish Fed chairman and a President that is pushing an inflationary agenda (increased deficit spending and protectionism both being inflationary). There are signs of accelerating inflation that are starting to perk up and the FOMC (Fed Open Market Committee) is now expected to boost the Fed Funds rate significantly this year. Bond investors are starting to get nervous and some long-time bond bulls have declared that the multi-decade bull market is over. (That means they expect bond prices to go down, which means yields go up. The market yields on longer term government bonds are what set longer term interest rates, not the Fed.)

This isn't 2007/2008, because while there are lots of warnings signs that long term imbalances need to be resolved, there isn't a clear path to total disaster like there was at that time (the housing market and subprime mortgage debt). It is likely there are some nasty surprises out there lurking in the weeds, however.

One also wonders how an economy that has only barely gotten past stall speed with the assistance of massive doses of cheap debt will do when it is cut off from that performance-enhanced drug. The fact that rates on adjustable rate debt will start going up at the same time is a bit of a double whammy on that front.

Edited by RedmondLonghorn
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I agree inflation is lurking and a lot of current policies are going to increase that... With that being said, while I don't have many disagreements with your assessment, I do have one here:

Quote

There are signs of accelerating inflation that are starting to perk up and the FOMC (Fed Open Market Committee) is now expected to boost the Fed Funds rate significantly this year.

Four 25 basis point hikes in a year is nothing (and a lot of forecasts still only have 3)... I recently read about the last tightening cycle into the Great Recession, IIRC, they made 14 or 16 hikes in the 2 years preceding that. 

The fear which I think needs to be considered is the amount of rope they're leaving themselves to fight a recession... They typically need 500 basis points to do so, if we get one within the next 2 years, they'll have half of that.

Edited by fantasycurse42
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27 minutes ago, fantasycurse42 said:

I agree inflation is lurking and a lot of current policies are going to increase that... With that being said, while I don't have many disagreements with your assessment, I do have one here:

Four 25 basis point hikes in a year is nothing (and a lot of forecasts still only have 3)... I recently read about the last tightening cycle into the Great Recession, IIRC, they made 14 or 16 hikes in the 2 years preceding that. 

The fear which I think needs to be considered is the amount of rope they're leaving themselves to fight a recession... They typically need 500 basis points to do so, if we get one within the next 2 years, they'll have half of that.

You can argue that 100-150 bps isn't significant. Historically that is certainly true. When you consider that the 10Y Treasury averaged right around 200 bps through 2015 & 2016 and was as low as 206 in September of last year, it seems a bit more significant.

And you are right that they need more dry powder than they have now.

I didn't go into detail on how meaningful quantitative tightening could be, for a couple reasons. First, it is esoteric as hell for people that don't follow this stuff and secondly because nobody really knows how significant it may be. 

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12 minutes ago, Juxtatarot said:

@RedmondLonghorn  How much do you think the increasing wealth and income gaps have contributed to the problems you mention?  Also, what might be the economic result of policies that would try to narrow these gaps?

I think you may have missed a big point on the direction of causality here. Fed policy has caused a significant amount of the increasing wealth gap.

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41 minutes ago, jonessed said:

What’s the best way to hedge against this from an investor standpoint?

There isn't a really good one.

I am not going to give investment advice in here, but Paul Tudor Jones, who is pretty good at this stuff, believes in cash and commodities these days.

Distressed debt investing is also going to become very lucrative in the intermediate term. But the distress has to happen first. 

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5 minutes ago, RedmondLonghorn said:

You can argue that 100-150 bps isn't significant. Historically that is certainly true. When you consider that the 10Y Treasury averaged right around 200 bps through 2015 & 2016 and was as low as 206 in September of last year, it seems a bit more significant.

And you are right that they need more dry powder than they have now.

I didn't go into detail on how meaningful quantitative tightening could be, for a couple reasons. First, it is esoteric as hell for people that don't follow this stuff and secondly because nobody really knows how significant it may be. 

You think the dollar getting hammered in the last 15 months has anything to do with the above and or growing US debt & deficits? 

Personally, I find the currency markets are usually the smartest. 

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Strange times though, I'd love to hide out in gold as we're late in this cycle, but with rates on the move up, prob not a smart move... Really nowhere to hide for protection if the market was to turn, which is pretty scary.

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7 minutes ago, fantasycurse42 said:

You think the dollar getting hammered in the last 15 months has anything to do with the above and or growing US debt & deficits? 

Personally, I find the currency markets are usually the smartest. 

It probably does, but you also need to consider that the previous 18 months the dollar had a pretty huge move to the upside.

And yeah, the currency markets are really smart and forward looking. Unfortunately I sometimes have trouble figuring out what they are seeing.

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26 minutes ago, RedmondLonghorn said:

I think you may have missed a big point on the direction of causality here. Fed policy has caused a significant amount of the increasing wealth gap.

I'd love to read more about why you think this is the case, as what I've been reading and understand is that much of the inequality can be attributed to the ways smaller companies can make huge amounts of money, and those gains in wealth are focused on only a few incredibly wealthy folks.  From CEO's, to startup founders, to executives in high-tech industries, and then also in the financial industry where the "fee brokers" make money on both the upswings and the downswings.

All while the normal workers who get paid have had wages stagnant for decades.  Seems to be a consequence of the present financial and technology lead market, with few winners, than anything else.

But like i said, I'd appreciate it if you point me to reading that supports your view, or explain it yourself.

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Just now, SinbadTheSailor said:

Do you expect a major downturn in the stock market when rates start being raised more significantly? 

 

I am not trying to call the market here. I have been really worried about the fundamentals and valuation in stocks for the better part of two years and I have missed out on a lot of nice gains because that.

I have spent 20+ years working in the equity markets, but calling overall direction has never really been in my job description.

I will say that interest rates have an inverse relationship with equity valuations that is underpinned by both financial theory and empirical observation.

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2 minutes ago, SinbadTheSailor said:

I'd love to read more about why you think this is the case, as what I've been reading and understand is that much of the inequality can be attributed to the ways smaller companies can make huge amounts of money, and those gains in wealth are focused on only a few incredibly wealthy folks.  From CEO's, to startup founders, to executives in high-tech industries, and then also in the financial industry where the "fee brokers" make money on both the upswings and the downswings.

All while the normal workers who get paid have had wages stagnant for decades.  Seems to be a consequence of the present financial and technology lead market, with few winners, than anything else.

But like i said, I'd appreciate it if you point me to reading that supports your view, or explain it yourself.

I thought I did above.

But I'll reiterate: Fed policy has artificially inflated the value of all financial assets. People that own a lot of them therefore become lots richer, people that own a few become a little richer, and people that don't own any don't gain any benefit from that. People who rent, especially in urban areas experiencing a lot of growth, are usually hit the hardest because they aren't benefiting from soaring RE values and rents have been tending to go up because development has been focused on higher rent properties and there is more competition for existing rentals.

There are certainly other things going on too. But you can draw a pretty direct line from Fed policy to even things that seem unrelated like the valuations of tech start-ups, to address one of your examples.

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21 minutes ago, RedmondLonghorn said:

I thought I did above.

But I'll reiterate: Fed policy has artificially inflated the value of all financial assets. People that own a lot of them therefore become lots richer, people that own a few become a little richer, and people that don't own any don't gain any benefit from that. People who rent, especially in urban areas experiencing a lot of growth, are usually hit the hardest because they aren't benefiting from soaring RE values and rents have been tending to go up because development has been focused on higher rent properties and there is more competition for existing rentals.

There are certainly other things going on too. But you can draw a pretty direct line from Fed policy to even things that seem unrelated like the valuations of tech start-ups, to address one of your examples.

I think you might lose a lot of people here.  I certainly agree that Fed policy has been a contributing factor to wealth distribution issues.  However, you seem to think it's close to a root cause.

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1 minute ago, Juxtatarot said:

I think you might lose a lot of people here.  I certainly agree that Fed policy has been a contributing factor to wealth distribution issues.  However, you seem to think it's close to a root cause.

It is a root cause. It isn't the only one.

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4 hours ago, RedmondLonghorn said:

I thought I did above.

But I'll reiterate: Fed policy has artificially inflated the value of all financial assets. People that own a lot of them therefore become lots richer, people that own a few become a little richer, and people that don't own any don't gain any benefit from that. People who rent, especially in urban areas experiencing a lot of growth, are usually hit the hardest because they aren't benefiting from soaring RE values and rents have been tending to go up because development has been focused on higher rent properties and there is more competition for existing rentals.

There are certainly other things going on too. But you can draw a pretty direct line from Fed policy to even things that seem unrelated like the valuations of tech start-ups, to address one of your examples.

An alternate story for your consideration:

Income inequality and stagnant wages have created a situation where maintaining a "middle class" lifestyle requires increasing levels of consumer debt.  This increased the financialization of the economy as more lending was needed to keep the pace of growth.  This is particularly evident in housing, where median wages and median housing costs became more and more disconnected.  Increased wealth concentration (including imported savings from Asia) and falling incomes else where means that the savings rate has to fall.  It means that the risk free rate to put the economy at equilibrium is lower.  All the Fed has done is try to clear the markets for goods and labor (as is its mandate) and that can only be accomplished by holding rates where the equilibrium rate is. 

Asset values appreciate when the market for goods and labor is near equilibrium.  They generally crash when the economy is falling into a recession, and a recession hurts the people who lose jobs and homes much more than a temporary asset value fluctuation for the wealthy.

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54 minutes ago, Slapdash said:

An alternate story for your consideration:

Income inequality and stagnant wages have created a situation where maintaining a "middle class" lifestyle requires increasing levels of consumer debt.  This increased the financialization of the economy as more lending was needed to keep the pace of growth.  This is particularly evident in housing, where median wages and median housing costs became more and more disconnected.  Increased wealth concentration (including imported savings from Asia) and falling incomes else where means that the savings rate has to fall.  It means that the risk free rate to put the economy at equilibrium is lower.  All the Fed has done is try to clear the markets for goods and labor (as is its mandate) and that can only be accomplished by holding rates where the equilibrium rate is. 

Asset values appreciate when the market for goods and labor is near equilibrium.  They generally crash when the economy is falling into a recession, and a recession hurts the people who lose jobs and homes much more than a temporary asset value fluctuation for the wealthy.

I'd buy that just fine if they (the central bankers) had kept rates low for a couple years, then eased them up, even if they had ended up at a lower than average level. They didn't even really try though. They made noises like they would a couple times and markets freaked out and the bankers administered more "medicine". You correctly identified one of the Federal Reserve's dual mandates, the other one is preventing inflation (maintaining stable prices). Proper inflation measurement is tricky as hell. Traditional CPI and PCE measurements have a lot of issues, to say the least. Clearly there were periods of generalized disinflation over the past decade, but it certainly wasn't constant. All of the virtual money-printing the Fed and other central banks did had to inflate something.

And all you have to do is look at the valuation of stocks, real estate, and a number of other asset classes to figure out that this isn't business as usual.

The new shadow mandate of the Fed and other central banks has been as an underwriter against market risk.

In short, while you make some valid points, I think your view is too sanguine on the impact of Central Bank policy.

Just to be clear, I am not advocating abolishing the Federal Reserve or going back to the gold standard. I am just pointing out that there are huge imbalances out there, which are largely explained by central bank policy errors. And that those imbalances are potentially quite dangerous. I also think it is pretty clear central bank policy has badly exacerbated wealth concentration.

Edited by RedmondLonghorn
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7 hours ago, jonessed said:

What’s the best way to hedge against this from an investor standpoint?

Bear flatteners are all the rage these days.  Just look at how far 5/30's have moved.   If you are long only, my best bet would be to hide out in leveraged loans until you see the credit markets start to crack, and then shift into the long bond.

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6 hours ago, fantasycurse42 said:

You think the dollar getting hammered in the last 15 months has anything to do with the above and or growing US debt & deficits? 

Personally, I find the currency markets are usually the smartest. 

Dxy weakness over the last little while has largely been due to the differences in where the Fed is in their tightening cycle versus many of the other major central banks, combined with many of the skepticisms around the strength of the U.S. economy as already discussed in this thread.

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8 minutes ago, hxperson said:

Dxy weakness over the last little while has largely been due to the differences in where the Fed is in their tightening cycle versus many of the other major central banks, combined with many of the skepticisms around the strength of the U.S. economy as already discussed in this thread.

You want to flesh this out some for me? Because I haven't really understood USD weakness vs. the EUR recently on the basis of interest rate differentials. 

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11 minutes ago, RedmondLonghorn said:

You want to flesh this out some for me? Because I haven't really understood USD weakness vs. the EUR recently on the basis of interest rate differentials. 

The more recent USD weakness vs euro (as well as jpy) has been largely due to high dollar cost hedging.  In other words an investor in Europe holding dollar assets looking to hedge out the currency risk has to pay an extremely high basis swap rate.  I have heard they need around 2.5% to breakeven.  This hasn't just had a big impact on the dollar, but also has combined with repatriation to cause front end corps to trade very heavy.

Edited by hxperson
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Just now, hxperson said:

The more recent USD weakness vs euro (as well as jpy) has been largely due to high dollar cost hedging.  In other words an investor in Europe holding dollar assets looking to hedge out the currency risk has to pay an extremely high rate basis swap rate.  I have heard they need around 2.5% to breakeven.  This hasn't just had a big impact on the dollar, but also has combined with repatriation to cause front end corps to trade very heavy.

This kind of explanation reminds me that I am just a dumb equities guy who knows something about macroeconomics. You FI/FX guys baffle me.

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3 minutes ago, RedmondLonghorn said:

This kind of explanation reminds me that I am just a dumb equities guy who knows something about macroeconomics. You FI/FX guys baffle me.

Lol equities are where all the money/glory is.  We are like the nerds at the party who are invited to make sure that the sound system is working.

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Just now, hxperson said:

Lol equities are where all the money/glory is.  We are like the nerds at the party who are invited to make sure that the sound system is working.

If I could go back in time, I would have gone towards distressed debt and private credit. Lot of the same skills as equities, but just esoteric enough to not to be able to be replaced by quant algorithms or people 20 years younger.

Too old now. Sigh.

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12 hours ago, SinbadTheSailor said:

For what its worth, I invest through Vanguard and they see an extended period of low returns ahead.  International stocks are projected to outperform our domestic ones.

Maybe, maybe not. But I've been moving a greater portion of my investments into international, international small cap,  emerging markets (with a fair amount outside of the BRIC), REIT, and now I'll probably look at commodity funds. I've never invested in gold, but I guess that's a possible good hedge.

Might be a good time to pay down our house mortgage, but I'd think inflation would make that less of a favorable option. ? 

13 hours ago, RedmondLonghorn said:

There isn't a really good one.

I am not going to give investment advice in here, but Paul Tudor Jones, who is pretty good at this stuff, believes in cash and commodities these days.

Distressed debt investing is also going to become very lucrative in the intermediate term. But the distress has to happen first. 

Interesting. If I'm concerned about inflation, cash isn't the first place I'd think to invest.

Edited by -OZ-
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7 hours ago, hxperson said:

Bear flatteners are all the rage these days.  Just look at how far 5/30's have moved.   If you are long only, my best bet would be to hide out in leveraged loans until you see the credit markets start to crack, and then shift into the long bond.

I read this in Fletch’s voice.

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7 hours ago, RedmondLonghorn said:

If I could go back in time, I would have gone towards distressed debt and private credit. Lot of the same skills as equities, but just esoteric enough to not to be able to be replaced by quant algorithms or people 20 years younger.

Too old now. Sigh.

I actually see a lot of quants in these shops now (these are all of my clients who I finance at my bank). I am sure it’s not as prevalent as equities but there has been a global push for the search of yield where lots of institutional shops are not only originating nonbank lending but also purchasing now for very low yields (like under 6) which goes hand in hand with your thesis of risk not being aligned with price. The distressed debt buyers are paying 92 cents on the dollar for the same paper that was being sold for 70 cents on the dollar 3 years ago. Most of my distressed debt clients are on the sideline as they can’t make it pencil or specialize in such complicated paper that it is not easily replicated by newer entrants.

I do agree something is lurking beneath the surface in terms of asset bubbles, definitely equities (although have been saying that for a year and a half now) as well as pockets of housing which will only become exacerbated with interest rates moving up which people buying homes have not yet priced in (in addition to the new tax plan).  When equities really correct and people realize the same house should go for 15% lower due to the cost of financing it, I believe we will have some serious corrections throughout a variety of markets.

Great postings. Mark Twain said it best, “History does not repeat itself but it often rhymes”.

This next downturn won’t be due to mortgage fraud but that does not mean we are insulated from a major correction across multiple asset classes.

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10 hours ago, RedmondLonghorn said:

I'd buy that just fine if they (the central bankers) had kept rates low for a couple years, then eased them up, even if they had ended up at a lower than average level. They didn't even really try though. They made noises like they would a couple times and markets freaked out and the bankers administered more "medicine". You correctly identified one of the Federal Reserve's dual mandates, the other one is preventing inflation (maintaining stable prices). Proper inflation measurement is tricky as hell. Traditional CPI and PCE measurements have a lot of issues, to say the least. Clearly there were periods of generalized disinflation over the past decade, but it certainly wasn't constant. All of the virtual money-printing the Fed and other central banks did had to inflate something.

And all you have to do is look at the valuation of stocks, real estate, and a number of other asset classes to figure out that this isn't business as usual.

The new shadow mandate of the Fed and other central banks has been as an underwriter against market risk.

In short, while you make some valid points, I think your view is too sanguine on the impact of Central Bank policy.

Just to be clear, I am not advocating abolishing the Federal Reserve or going back to the gold standard. I am just pointing out that there are huge imbalances out there, which are largely explained by central bank policy errors. And that those imbalances are potentially quite dangerous. I also think it is pretty clear central bank policy has badly exacerbated wealth concentration.

I do want to make it clear that when I refer to the equilibrium rate I am including inflation in that.  My usage is conceptually similar to the Wicksellian natural rate or what most macro models were calling the full employment equilibrium when I was in school.

I try to judge the Fed by its mandates.  I think that Fed policy is extremely important and have been very critical of moves over the last decade.   They kept rates too high as aggregated demand was collapsing and allowed the housing crisis to turn into a dire financial crisis.  IOER effectively killed the interbank lending market at the time it was needed.  Facing an environment where the natural rate was likely negative for a period, the Fed relied on QE with marginal benefits and unknown risks.

As a result of all of this we see a Fed approaching its mandates slowly over 8 or so years.  Unemployment has gone down, but wage and labor force growth remains weak.  Inflation is just now at their target.  I think the Fed could have and should have done more to stimulate the economy.

On top of the above mental model I have, I find it difficult to see what you are proposing as the counter-factual for what the Fed should have done.  You seem to be arguing rates are too low for too long.  If that were the case we would be seeing overheating inflation or signs of a labor market beyond full employment.  We see neither.  Less Fed action would have likely lowered employment and inflation further.  We may have even had deflation as we were close in many periods.  Measurement of inflation is hard, but there isn't a reputable measure that shows it has been high.  I'm a fan of trimmed-mean PCE, BTW.

Returning to the inequality question, asset markets do typically grow when the economy is doing well and the economy does well when the Fed is at or near its objectives. When asset distribution is already unequal, asset appreciation will increase wealth inequality.  It reflects underlying things out of the Fed's control or it's mandate.  I don't buy the premise that the Fed should implement tighter monetary policy to cool asset markets, which would only damage its performance on the dual mandate more.  Lower wage growth and more unemployment involves a lot of real pain on the poor and middle classes.  Furthermore, growing inequality isn't unique to the US.  It is across the world and primarily driven by changes in trade and technology.  What is uniquely American is that the fiscal mechanism fails to address and it often makes it worse.  Unfair to blame the Fed for that.

In summary, while you have a point about the policies in recent years exacerbating wealth concentration, I think it is simply definitional. So, I'm curious what you think the path should have been.  Where do I lose you in my narrative of the crisis?

 

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31 minutes ago, Slapdash said:

I do want to make it clear that when I refer to the equilibrium rate I am including inflation in that.  My usage is conceptually similar to the Wicksellian natural rate or what most macro models were calling the full employment equilibrium when I was in school.

I try to judge the Fed by its mandates.  I think that Fed policy is extremely important and have been very critical of moves over the last decade.   They kept rates too high as aggregated demand was collapsing and allowed the housing crisis to turn into a dire financial crisis.  IOER effectively killed the interbank lending market at the time it was needed.  Facing an environment where the natural rate was likely negative for a period, the Fed relied on QE with marginal benefits and unknown risks.

As a result of all of this we see a Fed approaching its mandates slowly over 8 or so years.  Unemployment has gone down, but wage and labor force growth remains weak.  Inflation is just now at their target.  I think the Fed could have and should have done more to stimulate the economy.

On top of the above mental model I have, I find it difficult to see what you are proposing as the counter-factual for what the Fed should have done.  You seem to be arguing rates are too low for too long.  If that were the case we would be seeing overheating inflation or signs of a labor market beyond full employment.  We see neither.  Less Fed action would have likely lowered employment and inflation further.  We may have even had deflation as we were close in many periods.  Measurement of inflation is hard, but there isn't a reputable measure that shows it has been high.  I'm a fan of trimmed-mean PCE, BTW.

Returning to the inequality question, asset markets do typically grow when the economy is doing well and the economy does well when the Fed is at or near its objectives. When asset distribution is already unequal, asset appreciation will increase wealth inequality.  It reflects underlying things out of the Fed's control or it's mandate.  I don't buy the premise that the Fed should implement tighter monetary policy to cool asset markets, which would only damage its performance on the dual mandate more.  Lower wage growth and more unemployment involves a lot of real pain on the poor and middle classes.  Furthermore, growing inequality isn't unique to the US.  It is across the world and primarily driven by changes in trade and technology.  What is uniquely American is that the fiscal mechanism fails to address and it often makes it worse.  Unfair to blame the Fed for that.

In summary, while you have a point about the policies in recent years exacerbating wealth concentration, I think it is simply definitional. So, I'm curious what you think the path should have been.  Where do I lose you in my narrative of the crisis?

 

I think, at a minimum, they should have been able to move the FF rate up by at least a couple hundred basis points over the past 4-5 years. It could have been exceedingly gradual.

They didn't even try.

Although there are legitimate criticisms of the Taylor Rule, it is still a pretty helpful yardstick, I think. Although one can certainly fool with the inputs plenty, a fairly simple application of the Taylor Rule looks like this. You'll note that based on this calculation, the current FF rate should be >4%. I would be the first to admit that I don't think it realistic to suggest the rate could already be at that level. But the fact we are currently at 125-150 bps does seem to be artificially low by a meaningful amount.

As far as the wealth inequality argument goes, I never meant to imply that the Fed or Fed policy was the sole source of wealth inequality. Far from it. But I do think it is a major factor in in its recent extraordinary growth.

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4 hours ago, -OZ- said:

Maybe, maybe not. But I've been moving a greater portion of my investments into international, international small cap,  emerging markets (with a fair amount outside of the BRIC), REIT, and now I'll probably look at commodity funds. I've never invested in gold, but I guess that's a possible good hedge.

Might be a good time to pay down our house mortgage, but I'd think inflation would make that less of a favorable option. ? 

Interesting. If I'm concerned about inflation, cash isn't the first place I'd think to invest.

I don't think PTJ expects runaway inflation. I think he sees a bad environment for bonds and excessively stretched equity valuations and settled on commodities and cash as least bad alternatives.

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40 minutes ago, RedmondLonghorn said:

I think, at a minimum, they should have been able to move the FF rate up by at least a couple hundred basis points over the past 4-5 years. It could have been exceedingly gradual.

They didn't even try.

Although there are legitimate criticisms of the Taylor Rule, it is still a pretty helpful yardstick, I think. Although one can certainly fool with the inputs plenty, a fairly simple application of the Taylor Rule looks like this. You'll note that based on this calculation, the current FF rate should be >4%. I would be the first to admit that I don't think it realistic to suggest the rate could already be at that level. But the fact we are currently at 125-150 bps does seem to be artificially low by a meaningful amount.

As far as the wealth inequality argument goes, I never meant to imply that the Fed or Fed policy was the sole source of wealth inequality. Far from it. But I do think it is a major factor in in its recent extraordinary growth.

When I used to have a Bloomberg, there was a fun Taylor rule window you could play with.  Under most applications, including the one you linked, the equilibrium rate would have been negative during 09-10.  Current estimates are dependent on how close you think we are to potential GDP.  I don't think we are as close as the Fed does.

Taylor rule would also say monetary policy was too loose leading up to the crisis.  That is a claim I would agree with.

And, again, a higher rate over the last few years would have resulted in lower inflation and employment. 

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2 minutes ago, Slapdash said:

When I used to have a Bloomberg, there was a fun Taylor rule window you could play with.  Under most applications, including the one you linked, the equilibrium rate would have been negative during 09-10.  Current estimates are dependent on how close you think we are to potential GDP.  I don't think we are as close as the Fed does.

Taylor rule would also say monetary policy was too loose leading up to the crisis.  That is a claim I would agree with.

That's interesting, because I think we are quite close to potential GDP.

Potential GDP has been greatly impaired by the huge decline in worker productivity growth. Interestingly, I know of at least one pretty smart economic thinker who has tied the decline in productivity growth to poor resource allocation decisions due to misleading market signals, thanks to central bank policy I don't necessarily subscribe to that view, but I also haven't seen very many good alternative explanations either.

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1 minute ago, RedmondLonghorn said:

That's interesting, because I think we are quite close to potential GDP.

Potential GDP has been greatly impaired by the huge decline in worker productivity growth. Interestingly, I know of at least one pretty smart economic thinker who has tied the decline in productivity growth to poor resource allocation decisions due to misleading market signals, thanks to central bank policy I don't necessarily subscribe to that view, but I also haven't seen very many good alternative explanations either.

I don’t have the knowledge to really participate in this thread, but big thumbs up to everyone that is.  Serious policy discussion without stupid pissing matches.

My theory for the lack of worker productivity growth is smartphones.  

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2 minutes ago, fatguyinalittlecoat said:

I don’t have the knowledge to really participate in this thread, but big thumbs up to everyone that is.  Serious policy discussion without stupid pissing matches.

My theory for the lack of worker productivity growth is smartphones.  

I don't doubt that smartphones and social media in general are contributors. I just don't think they could explain the whole decline.

I think the argument that companies are more interested in share buybacks and things like that than investing in R&D and enhancing productivity has some merit as well. And some of that could be because of perverse signals sent by the financial markets (which traces back to Fed policy), but there is also a more conventional explanation: aggregate demand and capacity utilization haven't exactly been gangbusters. Though they are perking up recently.

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21 minutes ago, RedmondLonghorn said:

That's interesting, because I think we are quite close to potential GDP.

Potential GDP has been greatly impaired by the huge decline in worker productivity growth. Interestingly, I know of at least one pretty smart economic thinker who has tied the decline in productivity growth to poor resource allocation decisions due to misleading market signals, thanks to central bank policy I don't necessarily subscribe to that view, but I also haven't seen very many good alternative explanations either.

The secular stagnation hypothesis from Larry Summers is interesting in this vein:  http://larrysummers.com/2016/02/17/the-age-of-secular-stagnation/

Ultimately, I do not agree that monetary policy could not have done more.

The idea of hysteresis is also interesting.  Essentially, we had such a negative shock that trend growth is permanently reduced. 

I just would like to see more signs of a tight labor market to think we are closer.  Wage growth and participation rate remain lackluster.

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1 minute ago, RedmondLonghorn said:

:oldunsure:

The double negative makes this a little challenging to unpack.

?

That was regarding Summers' piece.  I think it could have, contrary to Summers' views.  But I'm thinking more in terms for a regime shift in communications/targets

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