For the week, the S&P500 jumped 3.6% (up 9.9% y-t-d), and the Dow rose 2.9% (up 9.7%). The Banks surged 7.0% (up 14.0%), while the Broker/Dealers jumped 6.0% (up 0.8%). The Morgan Stanley Cyclicals rose 5.2% (up 17.5%), and the Transports increased 3.6% (up 20.1%). The Morgan Stanley Consumer index gained 2.0% (up 10.0%), and the Utilities added 1.0% (up 3.1%). The broader market was quite strong. The S&P 400 Mid-Caps jumped 3.9% (up 18.5%), and the small cap Russell 2000 surged 4.7% (up 17.8%). The Nasdaq100 gained 2.9% (up 17.5%), and the Morgan Stanley High Tech index increased 2.5% (up 11.2%). The Semiconductors jumped 5.2% (up 8.9%). The InteractiveWeek Internet index gained 2.4% (up 32.3%). The Biotechs added 0.5%, increasing 2010 gains to 24.3%. With bullion jumping $35, the HUI gold index jumped 5.3% (up 27.9%).
One-month Treasury bill rates ended the week at 12 bps and three-month bills closed at 12 bps. Two-year government yields rose 3 bps to 0.36%. Five-year T-note yields ended the week down 7 bps to 1.04%. Ten-year yields declined 6 bps to 2.54%. Long bond yields jumped 14 bps to 4.12%. Benchmark Fannie MBS yields were down 4 bps to 3.32%. The spread between 10-year Treasury yields and benchmark MBS yields widened 2 bps to 78 bps. Agency 10-yr debt spreads were little changed at 11 bps. The implied yield on December 2011 eurodollar futures increased 1.5 bps to 0.555%. The 10-year dollar swap spread jumped 5 bps to 13.25. The 30-year swap spread declined 1.5 bps to negative 36.5. Corporate bond spreads narrowed. An index of investment grade bond risk declined 8 to 86 bps. An index of junk bond risk sank 53 to 435 bps (low since October 2007).
Investment grade issuers included Coca-Cola $4.5bn, Dow Chemical $2.5bn, GE Capital $2.0bn, Northrop Grumman $1.5bn, Chicago Parking $600 million,Williams Partners $600 million, Jefferies $500 million, Northern Trust $500 million, Oglethorpe Power $450 million, and Harvard $300 million.
Junk bond funds attracted inflows of $259 million (from Lipper), the ninth straight week of positive flows. Junk issuers included Sungard Data Systems $1.6bn, Metropcs Wireless $1.0bn, Hanesbrands $1.0bn, Frac Tech Services $550 million, Harbinger Group $350 million, USG $350 million, Goodman Group $325 million, Seminole Tribe of Florida $330 million, Jarden $300 million, Quality Distribution $225 million, New York Times $225 million, Spansion $200 million, and Asbury Auto Group $200 million.
Converts issues included Lennar $435 million, Developers Diversified $350 million, and Vishay Intertech $275 million.
The list of international dollar debt sales included BNP Paribas $2.4bn, Sinochem Overseas $2.0bn, Kazmunaigaz Finance $1.25bn, China Overseas $1.0bn, Lukoil $1.0bn, Banco Santander $850 million, Korea National Oil $700 million, Banco Do Nordeste Brasil $300 million, Telefonica Movil $300 million, AES Andres $285 million, NCL $250 million, EMP Distribuidora $230 million, General Shopping $200 million, and Arcor $200 million.
U.K. 10-year gilt yields fell 10 bps to 2.97%, and while German bund yields dropped 10 bps to 2.42%. Greek 10-year bond yields surged 89 bps to 11.45%. Ten-year Portuguese yields jumped 56 bps to 6.50%. Ireland yields rose 70 bps to 7.62%. The German DAX equities index rose 2.3% (up 13.4% y-t-d) to a 2010 high. Japanese 10-year "JGB" yields were little changed at 0.93%. The Nikkei 225 jumped 4.4% (down 8.7%). Emerging equity markets were higher. For the week, Brazil's Bovespa equities index rose 2.7% (up 5.9%), and Mexico's Bolsa increased 2.1% (up 13.1%). South Korea's Kospi index gained 3.0% (up 15.2%). India’s Sensex equities index jumped 4.9% (up 20.3%) to a record close. China’s Shanghai Exchange rallied another 5.1% (down 4.5%). Brazil’s benchmark dollar bond yields rose 4 bps to 3.58%, while Mexico's benchmark bond yields were little changed at 3.55%.
Freddie Mac 30-year fixed mortgage rates added one basis point last week to 4.24%, but were down 74 bps year-over-year. Fifteen-year fixed rates declined 3 bps to 3.63% (down 77bps y-o-y). One-year ARMs were down 4 bps to 3.26% (down 121bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed jumbo rates down 7 bps to 5.11% (down 99bps y-o-y).
Federal Reserve Credit declined $8.5bn to $2.281 TN. Fed Credit was up $60.8bn y-t-d (3.2% annualized) and $132bn, or 6.1%, from a year ago. Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 11/3) surged $21.6bn (21-wk gain of $240bn) to a record $3.316 TN. "Custody holdings" have increased $360.4bn y-t-d (14.4% annualized), with a one-year rise of $405.9bn, or 13.9%.
M2 (narrow) "money" supply declined $9.6bn to $8.764 TN. Narrow "money" has increased $231bn y-t-d, or 3.3% annualized. Over the past year, M2 grew 2.9%. For the week, Currency added $1.6bn, and Demand & Checkable Deposits jumped $6.6bn. Savings Deposits dropped $16.9bn, and Small Denominated Deposits declined $5.4bn. Retail Money Fund assets dipped $3.6bn.
Total Money Market Fund assets (from Invest Co Inst) slipped $6.6bn to $2.800 TN. Year-do-date, money fund assets have dropped $494bn, with a one-year decline of $539bn, or 16.1%.
Total Commercial Paper outstanding fell $22.5bn (7-wk gain of $109bn) to $1.145 TN. CP has declined $24.7bn year-to-date, and was down $170bn from a year ago.
Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg’s Alex Tanzi – were up $1.519 TN y-o-y, or 20.3%, to a record $9.009 TN.
Global Credit Market Watch:
November 2 – Bloomberg (Dara Doyle): “Irish Finance Minister Brian Lenihan may have just one month to stave off an international bailout. The extra yield that investors demand to hold Irish 10-year bonds over German bunds surged to a record today as Lenihan tries to put together a 2011 budget by Dec. 7 that convinces investors he can get the country’s finances in order.”
November 2 – Bloomberg (Jason Webb and John Glover): “The yield gap between junk-rated company bonds and investment-grade debt in emerging markets is near the smallest since June 2008 as less creditworthy borrowers benefit most from cash pouring into developing countries. The spread has narrowed to 225 basis points… from this year’s high of 314 basis points on June 8 amid a worldwide rally in corporate bonds… Bondholders are seeking out riskier, higher-yielding securities as central banks’ attempts to stoke economic growth by keeping down interest rates also curb returns on investments such as government debt.”
November 2 – Bloomberg (Patricia Lui): “China’s U.S. dollar borrowing costs fell in October by the most since January as investors bet record currency reserves of $2.65 trillion will help the world’s fastest-growing economy win a higher debt rating… The extra yield over similar-maturity Treasuries narrowed 15 basis points to a three-month low of 95.”
November 1 – Bloomberg (Jody Shenn): “JPMorgan Chase & Co. analysts lowered their estimate for the cost to sellers of repurchasing soured U.S. mortgages to as much as $90 billion from a range that went as high as $120 billion.”
Global Government Finance Bubble Watch:
November 1 – Financial Times (Martin Feldstein): “The Federal Reserve’s proposed policy of quantitative easing is a dangerous gamble with only a small potential upside benefit and substantial risks of creating asset bubbles that could destabilise the global economy. Although the US economy is weak and the outlook uncertain, QE is not the right remedy. Under the label of QE, the Fed will buy long-term government bonds, perhaps one trillion dollars or more, adding an equal amount of cash to the economy and to banks’ excess reserves. Expectation of this has lowered long-term interest rates, depressed the dollar’s international value, bid up the price of commodities and farm land and raised share prices.”
November 4 – Bloomberg (Frances Yoon and William Sim): “The Federal Reserve’s plan to buy an additional $600 billion of Treasuries will spark another influx of money to emerging markets, underscoring the need for South Korea to consider capital controls, the finance ministry said. Less than nine hours after the Federal Open Market Committee issued its statement on securities purchases, the Bank of Korea said excessive foreign capital flows into the stock market pose a risk as the rising value of the won attracts overseas investors. Nation’s from South Korea to Brazil are struggling to manage the flows, which are driving up the value of their currencies and reducing the competitiveness of exporters… ‘Our country will actively consider implementing capital control measures to improve the macro-economy,” Kim Ik Joo, a director general of South Korea’s finance ministry, said…”
November 3 – Bloomberg (Steve Matthews and Scott Lanman): “The Federal Reserve may be underestimating the inflation outlook for the second time in less than a decade as it prepares to pump more money into the U.S. economy. The Fed today will probably restart purchases of bonds to spur the economy even as growth is likely to accelerate… By expanding Fed assets, Chairman Ben S. Bernanke may go down the same policy path taken in 2003-04, when he and other central bankers kept rates near a record low as inflation rose faster than initially measured. Bernanke may risk increasing expectations for higher inflation by too much, causing a shake- up in currency and bond markets, said James D. Hamilton, a University of California… economist. ‘That perception alone would bring about a series of immediate challenges, such as a rapid flight from the dollar, commodity speculation and possible under-subscription to Treasury auctions,’ said Hamilton, a former visiting scholar at the Fed board and the New York and Atlanta district banks. ‘So the Fed has a careful tightrope act here.’”
November 5 – Bloomberg (Simon Kennedy and Shamim Adam): “U.S. Treasury Secretary Timothy F. Geithner’s shot to end the “currency war” by pushing for targets to shrink current-account gaps risks failing over the complexity of shifting trade and investment flows. Geithner may use a Nov. 5-6 meeting of Asia-Pacific Economic Cooperation forum counterparts in Kyoto, Japan, to press his case for current-account deficit or surplus targets of less than 4 percent of gross domestic product. The issue will also likely feature at a Group of 20 summit in Seoul next week.”
November 4 – Bloomberg (Arnaldo Galvao and Andre Soliani): “Brazil may buy back some of its international real-denominated bonds and sell new securities with longer maturities in a bid to temper capital inflows that helped drive the currency to a two-year high last month.”
November 4 – Bloomberg: “China will boost the number of mutual funds that can invest overseas next year, spurring inflows into other emerging markets and slowing the yuan’s appreciation, according to fund research companies Z-Ben Advisors and Howbuy.”
Currency Watch:
November 1 – Bloomberg: “China should purchase gold and oil overseas with its foreign-exchange reserves to avoid losses from a weakening dollar, according to a newspaper commentary by Shao Fenggao, an official at China Construction Bank Corp.”
The dollar index declined 0.9% (down 1.6% y-t-d) to 76.60. For the week on the upside, the New Zealand dollar increased 3.7%, the South African rand 3.3%, the Australian dollar 3.2%, the Swiss franc 2.1%, the Canadian dollar 1.9%, the Taiwanese dollar 1.7%, the South Korean won 1.6%, the Norwegian krone 1.6%, the Mexican peso 1.2%, the Brazilian real 1.1%, the British pound 0.9%, the Swedish krona 0.9%, the Danish krone 0.7%, and the euro 0.6%. On the downside, the Japanese yen declined 1.1%.
Commodities Watch:
November 5 – Bloomberg (Simon Clark and Stephen Morris): “Federal Reserve Chairman Ben S. Bernanke’s decision to pump a further $600 billion into the economy shows his grasp of economics is weak, said investor Jim Rogers, chairman of Rogers Holdings. ‘Dr. Bernanke unfortunately does not understand economics, he does not understand currencies, he does not understand finance, Rogers…said… ‘All he understands is printing money.’ ‘His whole intellectual career has been based on the study of printing money,’ said Rogers, who predicted the start of the global commodities rally in 1999. ‘Give the guy a printing press, he’s going to run it as fast as he can.’”
November 5 – Bloomberg (Grant Smith): “Oil traded near its highest level in two years in New York as the dollar headed for a weekly decline against most major counterparts after the Federal Reserve’s decision to purchase more debt to boost the U.S. economy.”
November 4 – Bloomberg (Mark Shenk and Grant Smith): “Oil may return to $100 a barrel for the first time since the 2008 financial crisis as the U.S. Federal Reserve’s stimulus measures weaken the dollar, drawing investors to raw materials. Crude may rally to three digits next year as central banks pump cash into their economies to revive growth, according to JPMorgan Chase & Co. and Bank of America Merrill Lynch.”
November 4 – Bloomberg (Tony C. Dreibus): “Commodities rose to a two-year high after the Federal Reserve said it would expand steps to boost the world’s largest economy, spurring demand for raw materials as a hedge against inflation.”
November 2 – Bloomberg (Stephen Morris and Debarati Roy): “Raw sugar surged to a 29-year high as dry weather crimps output in Brazil, the world’s biggest producer, and India may cap exports to boost domestic supplies. Output in Brazil’s Center South, the country’s biggest producing-region, tumbled 30% in the first half of October from a year earlier… Stockpiles in India… are about 4 million metric tons, compared with the nation’s preferred level of 10 million tons, according to Rabobank International. ‘Both Brazil and India are contributing to this frenzy,[ said Judith Ganes-Chase, the president of J. Ganes Consulting… ‘The prices will remain strong.’ Sugar has more than doubled since touching a 13-month low on May 7…”
November 3 – Bloomberg (Luzi Ann Javier): “Cotton futures… advanced to records on lingering concerns that a production deficit in China, the world’s biggest buyer, may be wider than estimated, boosting the nation’s import needs… ‘We continue to hear of reports of strong physical demand and concerns about the Chinese cotton crop,’ Luke Mathews, a commodity strategist at Commonwealth Bank of Australia, said… ‘It’s a global phenomenon that we’re seeing at the moment, reflective of the fact that global cotton supplies are extraordinarily tight.’ Global production is forecast to lag behind demand for a fifth straight year, draining stockpiles to the lowest level in 14 years…”
November 4 – Bloomberg (Leslie Patton): “A doubling of cotton prices since Feb. 1 may mean more expensive clothes, sheets and towels as textile mills… and retailers… pass along higher costs to their customers.”
November 3 – Bloomberg (Supunnabul Suwannakij): “Rubber futures in Thailand, the world’s largest producer, and Singapore surged to records as floods spread across major producing nations in Southeast Asia, hurting production of the commodity used to make tires.”
The CRB index surged 4.3% (up 10.7% y-t-d). The Goldman Sachs Commodities Index (GSCI) jumped 5.4% (up 13.3% y-t-d). Spot Gold gained 2.6% to $1,394 (up 27% y-t-d). Silver jumped 4.7% to $26.755 (up 59% y-t-d). December Crude rose $5.64 to $87.07 (up 10% y-t-d). December Gasoline surged 6.1% (up 7% y-t-d), while December Natural Gas slipped 2.3% (down 29% y-t-d). December Copper jumped 5.9% (up 18% y-t-d). December Wheat added 1.6% (up 35% y-t-d), and December Corn gained 1.0% (up 42% y-t-d).
China Bubble Watch:
November 1 – Bloomberg: “Shanghai’s World Expo transformed the city with a $44 billion makeover of roads, subway lines and its riverside Bund and was celebrated with traditional songs and dance when it closed late yesterday. The six-month event attracted 73.1 million visitors, topping the record of 64 million set in Osaka, Japan, in 1970.”
November 3 – Bloomberg: “The World Bank said China should raise interest rates and allow a stronger yuan to damp inflation, along with guarding against a surfeit of capital inflows… Funds pouring into Asia because of liquidity injections by central banks in developed countries shouldn’t deter China from raising rates, the lender said.”
November 4 – Bloomberg (Luzi Ann Javier): “Bears on Chinese equities are in retreat even as bets against the country’s companies exceed those of any of the world’s biggest markets… Short sales of Hang Seng China Enterprises Index shares dropped to an average 16% of equity available for lending from 21% at the end of August…”
November 3 – Bloomberg: “China’s worldwide search for copper begins in the gnarled hands of 76-year-old Yang Caiguan, who is fiddling with the cables of his digital television tuner… Around him sit amenities of modern life -- flat-screen TV, air conditioners, washing machine, water heater and gas-ignition stove -- that were foreign to him and his wife until this year. With their new apartment in the central Chinese town of Daojiang in Hunan province, the couple acquired at least 41 kilograms (90 pounds) of copper in electrical wiring and appliances, about 10 times the nation’s annual per capita consumption of the metal.”
November 3 – Bloomberg (Luzi Ann Javier and Jay Wang): “Textile makers in China, which uses more than 40% of the world’s cotton, face a supply shortage that has sent prices to a record and is ‘endangering’ their survival, an industry group said.”
Japan Watch:
November 4 – Bloomberg (Mayumi Otsuma): “The Bank of Japan’s planned purchases of real-estate investment trusts and exchange-traded funds may bolster investor confidence and support markets that have failed to recover ground lost since the global financial crisis. Governor Masaaki Shirakawa and his policy board will start a two-day policy meeting today to discuss the purchases, which are part of a broader 5 trillion-yen ($62 billion) fund unveiled last month. The bank brought forward its November meeting date by more than a week to speed up the purchases."
India Watch:
November 4 – Bloomberg (Rajhkumar K Shaaw): “Indian stocks climbed, driving the benchmark index to a record close, as foreign buying of the equities surged to an all-time high… This year’s 20% rally makes the Sensex the best performer among the world’s 10 biggest stock markets. Foreign fund inflows have surged 80%...”
November 4 – Bloomberg (Rakteem Katakey and Rajesh Kumar Singh): “Coal India Ltd. surged 40% on its first trading day to become the world’s second-most valuable coal miner after investors bid for 15 times the shares sold in the country’s largest initial public offering.”
Asia Bubble Watch:
November 1 – Bloomberg (Claire Leow, Thomas Kutty Abraham and Jeff Wilson): “Cooking oils, left behind in this year’s surge in agriculture prices, are poised to catch up with grains as record demand cuts stockpiles by the most in 17 years. Inventories of soybean oil and palm oil used… in everything from Hellmann’s mayonnaise to Snickers candy bars, will drop 12% in the coming year as China and India increase consumption 11 percent, U.S. Department of Agriculture data show.”
November 4 – Bloomberg (Michael Heath): “Asia-Pacific officials are preparing for stronger currencies and asset-price inflation as they blamed the U.S. Federal Reserve’s expanded monetary stimulus for threatening to escalate an inflow of capital into the region. Chinese central bank adviser Xia Bin said Fed quantitative easing is ‘uncontrolled’ money printing, and Japan’s Prime Minister Naoto Kan cited the U.S. pursuing a ‘weak-dollar policy.’ The Hong Kong Monetary Authority warned the city’s property prices could surge and Malaysia’s central bank chief said nations are prepared to act jointly on capital flows. ‘Extra liquidity due to quantitative easing will spill into Asian markets,’ said Patrick Bennett…strategist at Standard Bank Group Ltd. ‘It will put increased pressure on all currencies to appreciate, the yuan in particular has been appreciating at a slower rate than others.’”
November 1 – Bloomberg (Eunkyung Seo and William Sim): “South Korea’s exports grew faster than projected… Exports increased 29.9% in October from a year earlier, after gaining a revised 16.5% in September…”
November 1 – Bloomberg (Eunkyung Seo and William Sim): “South Korea’s consumer prices grew more than expected, increasing at the fastest pace in 20 months and bolstering the case for higher borrowing costs. The consumer price index rose 4.1% in October from a year earlier…”
November 4 – Bloomberg (Shamim Adam and Novrida Manurung): “Bank Indonesia kept its benchmark interest rate at a record low as slowing inflation allowed policy makers to delay an increase that could attract capital inflows and strengthen the currency further.”
Latin America Watch:
November 1 – Bloomberg (Matthew Bristow): “Brazilian economists raised their year-end consumer price forecasts for 2010 and 2011 as rising consumer demand powers the fastest economic growth in over two decades… Consumer prices will rise 5.29% this year and 4.99% in 2011…”
Unbalanced Global Economy Watch:
November 3 – Bloomberg (Gelu Sulugiuc): “Norway’s unemployment rate was 3.4% in the August quarter...
U.S. Bubble Economy Watch:
November 4 – Wall Street Journal (Julie Jargon and Ilan Brat): “An inflationary tide is beginning to ripple through America’s supermarkets and restaurants, threatening to end the tamest year of food pricing in nearly two decades. Prices of staples including milk, beef, coffee, cocoa and sugar have risen sharply in recent months. And food makers and retailers including McDonald’s Corp., Kellogg Co. and Kroger Co. have begun to signal that they'll try to make consumers shoulder more of the higher costs for ingredients.”
November 3 – New York Times (Stephanie Clifford): “Synthetic linings. Smaller buttons. Less Italian fabric. And yes, even more polyester. Unusually high cotton prices have apparel makers scrambling to keep down costs, but consumers be warned: cotton clothing will be getting more expensive. ‘It’s really a no-choice situation,’ said Wesley R. Card, president and chief executive of the Jones Group… ‘Prices have to come up.’”
November 1 – Bloomberg (Lu Wang): “U.S. infrastructure-spending plans are ‘too little, too late’ and should be increased in preference to quantitative easing, said Zhou Yuan, head of asset allocation at China’s $300 billion sovereign wealth fund. Proposed spending of about $500 billion over six years on infrastructure should be doubled, Zhou said…”
November 2 – Bloomberg (Steven Church): “Bankruptcy filings by U.S. consumers totaled 132,173 last month, 1.4% more than in September, keeping Americans on track to file 1.6 million bankruptcies this year, the American Bankruptcy Institute said. October’s total fell 2.8% from the same month last year…”
November 2 – Bloomberg (Kathleen M. Howley): “The U.S. homeownership rate was unchanged at a 10-year low in the third quarter… The homeownership rate was 66.9 percent… The homeowner vacancy rate, or the share of properties vacant and for sale, was unchanged at 2.5%...”
Central Bank Watch:
November 2 – Bloomberg (Kartik Goyal and Michael Heath): “Australia…raised interest rates to cool inflation, hours before the U.S. Federal Reserve meets to debate a round of asset purchases that may stoke price and currency pressures in Asia. The Reserve Bank of Australia cited medium-term inflation risks for today’s unexpected decision to raise its benchmark rate. India’s central bank boosted borrowing costs for a sixth time this year after consumer prices accelerated at the second- fastest pace among Group of 20 nations. The decisions highlight the divergence between Asian and emerging economies where recoveries are strengthening…”
November 2 – Bloomberg (Kartik Goyal): “India’s central bank raised interest rates for a sixth time this year in Asia’s fastest round of increases and said the chance of further policy tightening in the ‘immediate future is relatively low.’ The Reserve Bank of India boosted the repurchase rate by a quarter-point to 6.25%...”
November 2 – Bloomberg (Shamim Adam): “Former Federal Reserve Chairman Paul Volcker, an adviser to President Barack Obama, said quantitative easing may spark inflation in the future and the amount involved may be a cause for concern. ‘When money is too easy for too long, we will have more’ asset bubbles, Volcker, 83, said…”
November 4 – Bloomberg (Jana Randow): “Federal Reserve Chairman Ben S. Bernanke is making it harder for Jean-Claude Trichet to lead the European Central Bank out of crisis mode. Last night’s decision by the Fed to buy an additional $600 billion of Treasuries through June to bolster the U.S. economy may force the ECB to delay the withdrawal of its own stimulus measures, economists said… ‘It’s complicating the ECB’s exit and council members really need to think hard about their strategy,’ said Julian Callow, chief European economist at Barclays Capital… ‘They may have to reconsider their plans.’”
November 4 – Bloomberg (Jennifer Ryan): “The Bank of England kept its emergency stimulus program unchanged as the strength of the U.K. recovery persuaded officials not to join the Federal Reserve in buying more government bonds.”
QE2:
The late-July arrival of St. Louis Federal Reserve President Bullard’s monetary policy white paper commenced serious discussion regarding “QE2.” From August lows, the S&P500 has gained almost 18%, the S&P400 Mid-Caps 21%, and the small cap Russell 2000 25%. Notably, many global market prices have enjoyed even more robust inflation. Gold is up 19% and silver has surged 50%. The Shanghai Composite has rallied 22%. India’s Sensex index rose 18% to a record high. Copper is up 23% from August lows. Cotton has surged 80%, sugar 82%, and corn 46%. The Goldman Sachs Commodities index has gained 21% from mid-August lows.
In Bill Gross’s latest, he posits that the Fed is “pushing on a string.” This is not the case. The current backdrop has little-to-no similarity to the 1930’s; the world is definitely not today stuck in a Credit collapse and deflationary quagmire. Instead, much of the globe is facing an unrelenting onslaught of financial inflows and heightened inflationary pressures. Faltering dollar confidence is the prevailing force behind troubling inflationary pressures and strengthening Bubble Dynamics.
Increasingly, “emerging” economy Credit systems have succumbed to overheating, while key developed economies are locked into a perilous cycle of massive non-productive government debt expansion. Our unsound debt, liquidity and currency dynamics ensure that excess flourishes throughout global Credit systems. Bubbles are today left to run uncontrolled and undisciplined by a market hopelessly distorted by liquidity overabundance. Fed policies seemingly ensure that global liquidity goes from extraordinary to extreme overabundance.
The Fed may today be alone in “quantitative easing” through the purchase of domestic government obligations. Our central bank, however, has considerable global company when it comes to monetization and liquidity creation. From Bloomberg’s tally we know that global central bank international reserve positions have inflated $1.5 TN over the past 12 months. That last thing the global financial system needs is an additional shot of liquidity and reason to believe that dollar devaluation will be accelerated.
In post-announcement analysis of the Fed’s commitment to another $600bn of Treasury purchases, Bill Gross commented on CNBC that “the biggest risk is inflation down the road.” I again disagree with Mr. Gross. The greatest risk is a destabilizing crisis of confidence for our nation’s debt obligations. Our system doubled total mortgage debt in just over six years during the mortgage/Wall Street finance Bubble. Washington is now on track to double the federal debt load in just over 4 years. Federal Reserve policy remains instrumental in accommodating a precarious Credit Bubble at the heart of our monetary system.
It seems again worth highlighting a couple key sentences from ECB President Jean-Claude Trichet’s July 22, 2010 op-ed piece in the Financial Times, “Stimulate no more – it is now time for all to tighten”: “…Given the magnitude of annual budget deficits and the ballooning of outstanding public debt, the standard linear economic models used to project the impact of fiscal restraint or fiscal stimuli may no longer be reliable. In extraordinary times, the economy may be close to non-linear phenomena such as a rapid deterioration of confidence among broad constituencies of households, enterprises, savers and investors.”
The Bernanke Fed is playing with fire here. QE1 was implemented in an environment of deleveraging, impaired global financial systems and acute economic contraction. And, importantly, the dollar was enjoying strong performance in the marketplace as global risk markets suffered from de-risking and general outflows. QE1 had a stabilizing influence, as it worked to accommodate financial sector de-leveraging.
The QE2 backdrop is altogether different. Global markets are these days demonstrating robust inflationary biases. Risk embracement is back in vogue – speculation is rife. The “emerging economies” and global risk markets have been on the receiving end of massive financial (“hot money”) flows. Meanwhile, the dollar has been under heavy selling pressure with heightened risk of a crisis of confidence. This week’s market activity supported my view that the environment would seem to dictate that QE2 will only exacerbate increasingly unwieldy financial flows and unstable global markets.
It has been critical to my analysis that current reflation dynamics are different in kind from those that for the past two decades provided the Federal Reserve the most potent mechanism for domestic monetary stimulus. In today’s post-mortgage finance Bubble and housing mania backdrop, the Fed has lost much of its capacity to inflate household net worth and spending. The robust inflationary biases – and fledgling Bubbles – are now in global markets and economies. The “Core to Periphery” financial flow dynamic has become deeply embedded.
The key dynamic today is one where deep structural U.S. impairment elicits an unprecedented monetary response from our central bank. Yet the markets anticipate that this liquidity will seek out the inflating asset classes and most robust global economies. This week, gold climbed to a record high, crude oil to a two-year high, and copper to a 28-month high. The Shanghai Composite jumped 5.1% this week and India’s Sensex was up 4.9%. So far, indications support the view that the Fed’s move will further stimulate unfolding global booms.
Whether it is Asia or the commodities/natural resources economies, QE2 will exacerbate the already powerful financial flows and Bubble fuel. The U.S. economy is poorly structured to benefit from these new global financial flows, inflation and growth dynamics. There may be some gain from inflating U.S. stock prices. Yet the struggling consumer sector is going to get smacked with higher food and energy prices.
In his Thursday op-ed in the Washington Post – “What the Fed did and why: supporting the recovery and sustaining price stability” – Chairman Bernanke argued that “the Federal Reserve has a particular obligation to help promote increased employment and sustain price stability.” The dilemma for the Fed is that the financial and economic environment will dictate that their policies have minimal impact on both U.S. employment and growth, while providing a major impetus for additional global Monetary Disorder. A strong case can be made that QE2 will only worsen already unprecedented global imbalances. Global policymakers must be at their wits’ end.
November 5 – Financial Times (Alan Beattie, Geoff Dyer, and Chris Giles): “’With all due respect, US policy is clueless,’ Wolfgang Schäuble, German finance minister, told reporters. ‘It’s not that the Americans haven’t pumped enough liquidity into the market,’ he said. ‘Now to say let’s pump more into the market is not going to solve their problems.’”
November 4 – Bloomberg (Arnaldo Galvao and Andre Soliani): “Brazil’s Finance Minister Guido Mantega said he’s not considering additional currency measures even as the U.S. throws ‘money from a helicopter’ in a bid to boost economic growth. Mantega said the Federal Reserve’s decision yesterday to inject $600 billion into the economy through debt purchases won’t work and increases the risk of asset bubbles forming around the globe. He said President Luiz Inacio Lula da Silva will urge the U.S. to change its policy next week when he attends the Group of 20 nations summit in Seoul, South Korea. It doesn’t work to throw money from a helicopter because this won’t make growth flourish,’ Mantega told reporters… ‘In Brazil, there is no risk of bubbles because we took measures that block exaggerated inflows.’”
November 5 – Bloomberg: “China said the U.S. Federal Reserve needs to explain this week’s decision to purchase bonds to pump money into the world’s biggest economy or risk undermining the global recovery. ‘Many countries are worried about the impact of the policy on their economies,’ Vice Foreign Minister Cui Tiankai said… ‘It would be appropriate for someone to step forward and give us an explanation, otherwise international confidence in the recovery and growth of the global economy might be hurt.’”