Bernanke

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Upcoming Struggles

My Obama watch antenna are unusually sensitive right now. We are headed into another round of semi-gridlock politically inept infighting down in Washington. As usual we the people will be, by and large, bystanders, while our erstwhile leadership goes through another round of bruising she-said he-said so-called dialog and policy making.

There are two issues of particular note:

One is the obvious continuing floundering of our economy. We are in a sideways drift that, under more healthy political conditions, would be considered an embarrassment. Our economy has oodles of under-utilized resources, pernicious long term unemployment, and gaping regulatory problems in banking, none of which will be high on anyone’s list this fall. Instead we will watch as we are forced through another round of brinkmanship by our extreme right wing Congressional Republicans.

Their focus – for the umpteenth and counting times – is Obamacare. Oh, and the debt ceiling. They have decided that they will combine the two and fight one more last stand against creeping socialism by refusing to raise the debt ceiling unless Obama shoots himself defunds his signature legislative victory. Since there isn’t a hope in hell of him actually acquiescing with the defunding of his own legislation, we have to assume that either we hit the debt ceiling and default on our debt, or that the Republicans cave in.

Now, there are a few Republicans of a slightly less rabid nature who see these two possible endings and would like to avoid both. So they are trying, not yet successfully, to disentangle the toxic weave being spin by their more extremist brethren. These efforts at sensibility merely incite the extremists to greater heights of end-of-the-world invective, and expose the ‘moderates’ to attack in next year’s election cycle. America’s perpetual elections mean that there is no longish period during which temperatures can fall and sanity re-assert itself. Instead we face yet another year of Tea Party activism aimed at weeding out those few – very, very few – Republicans who would like to govern rather than overturn government.

I am not the first to note that our current gridlock stems precisely and exclusively from the extremist drift in the Republican party. That part of the party willing to reach out and compromise rather than object and take hostages is so severely diminished that the entire nation is now stymied in its efforts to reflate the economy and enjoy a full recovery. It is both obnoxious and delusional to assert that, somehow, the Democrats are equally to blame. They are not. The simple fact is that the Republicans have no intention of compromising and wish only to force through their own agenda via various congressional tactics and stonewalling. They do not negotiate they simply submit sets of demands. Then they try to divert the blame onto everyone else when nothing gets done.

This is an epic struggle and one which Obama is not well equipped . His bureaucratic mindset and centrist tendency makes him a poor defender of those who would suffer most from the enactment of the extremist agenda. His rhetoric belies his weakness, but his action – or more often his inaction – make him the most likely moving part in the story line being played out.

So I wait with trepidation as he fumbles about and tries to pretend America is governable. Which is why this is an Obama watch and not a Washington watch.

The second issue where I fear Obama’s poor leadership skills is on the nomination for a replacement for Ben Bernanke at the Federal Reserve Board. All the latest rumblings suggest that Obama wants to nominate Larry Summers. Quite why I don’t know. Well, that’s not quite true, we do know: Summers was part of the White House inner circle during the 2009 policy making process that came up with Obama’s crisis solution. The story seems to be that the White House is so satisfied with the so-called success of its crisis response that those associated with it have a sort of saintly aura these four to five years later. Summers is one of those benefiting from this aura and is thus trusted. He is an insider for a president who relies overly on insiders. Thus Summers is the hot favorite for the Fed. He is also a very bad choice. Very bad.

First monetary policy is not Summer’s strong suit. I realize that someone with a vaulting ego the size of Summer’s acknowledges no weak suit, but let’s just say that money and banking are lower on the list of his strengths than some other aspects of economics. Second, that renowned ego and sense of self-importance means that Summer’s interpersonal skills are closer to those of Attila the Hun than those of Mother Theresa. In these days of gridlock and policy division a modicum of tact seems a useful attribute, especially at a Fed riven through with doubt about its own policies. Then, third, there’s the little matter of Summer’s regulatory record. He is a friend, putting it mildly, of Wall Street. Indeed he just made quite a fortune in finance. His record on banking and finance regulation is appalling. He is one of the legendary gang – along with Robert Rubin his mentor and Alan Greenspan – who foisted the failed bank deregulation on us with all its subsequent disastrous consequences. He has never, publicly, stepped back from that deregulatory stance. He thus remains a Wall Street advocate.

But Obama likes his buddies and their elitist credibility. He seems intent, as of now, to press for Summers. Let’s hope the growing tide of opposition forces him to change his mind

Meanwhile Obama watch shifts into high gear.

 

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The Fed Acts

Well it had to sometime. No one else is doing anything.

Only a few days ago I expressed a certain dismay that Ben Bernanke said a lot of the right things in his Jackson Hole speech, but then had done nothing. He articulated exactly why the Fed ought to act, and act aggressively, and then fell silent. It looks as if he was waiting for one more rotten employment report before he could gird himself for the fight.

And he saw that report last week. With the economy’s abysmal not very good job creation lingering, as evidenced by last week’s paltry increase in payrolls, time had run out. It took a while for the Fed to realize that it has two policy objectives and not one. The first – battling inflation – has so dominated Fed thinking that the second – helping maintain full employment – scarcely gets a look in. Typical of central bankers everywhere the Fed has become a slave to low inflation. Even when that means damaging the employment outlook.

Targeting inflation has its merits. Price stability, after all, has a lot going for it. And there are times when hammering inflation is worth the short term loss of jobs that seems inevitably to accompany the necessary disinflating. Nonetheless the obverse must also be true. There are times when letting inflation creep up is worth the boost to employment. In other words the trade off between employment and inflation is an active and ongoing compromise working in both directions. We seem to have forgotten that. So with our central bankers obsessed by inflation the unemployed were thrown on the mercy of fiscal policy, which as we know is so politically fraught as to be nonexistent much of the time – Obama’s way-too-weak stimulus notwithstanding.

Today that changed somewhat.

The new round of monetary policy – called QE3 – is remarkable in a couple of key respects.

First, it is open ended. The Fed has set no specific timetable for its purchases, saying only that it will monitor trends and keep up its action as long as necessary.

Second, it is going to focus its purchases on mortgage backed securities rather than Treasuries. According to Bernanke this is in order to bolster the real estate market, and to provide support at that end of the risk spectrum.

Oh, one more thing, the Fed also extended its low interest rate target period by a further six months. This means it is not expecting to raise rates until mid-2015. This extension alone is depressing. It implies that the Fed sees high unemployment persisting for a long while yet. Perhaps more intriguing was the comment that the Fed intends to keep low rates even after the recovery gathers steam. So we ought not to experience the usual rough tightening that central bankers love to impose the moment they see growth. This time the Fed is committed to allowing growth to build momentum before reacting. At least that’s the story for now.

So. What does this mean?

I think I am on the cautious side with this. In an economy going through a debt reduction of the scale we are, lowering interest rates is a more blunt tool than under normal circumstances. Plus the lack of demand is the driver of low business investment, not the cost of borrowing. So with households still gun shy over taking on more debt, and with businesses skeptical about the need to expand operations, the stimulative impact of cheaper money is lessened.

Having said that, with fiscal policy contorted and neutralized by our political impasse, the Fed’s action is the best we can hope for in the near term. So we ought to applaud and keep our fingers crossed. One of our two doctors noticed our malaise. Unfortunately the wrong one. Better that than nothing.

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Bernanke Confuses

OK. Now I get it. The key qualification for any aspiring Chairman of the Federal Reserve Board goes as follows:

Give a long awaited speech outlining Fed policy.

Give a spirited and detailed defense of that policy.

Clearly explain that although that policy is a little unusual its risks and costs are far outweighed by its benefits.

Give lots of examples of said benefits.

Refer to the current economic situation as disturbing, not very good, and otherwise grim.

Explain at length that the longer the grim times linger the more damage is suffered both now and down the road.

Re-iterate that last bit about down the road. Make sure everyone is clear that action is needed to limit that down-the-road damage.

Double down on the grim.

Emphasize the call for action.

The need for action. And the urgency of said action.

Shout out loud that urgent action is absolutely necessary.

And.

Then.

Do nothing.

Maybe there was a sentence in Bernanke’s speech today about the need for inaction that somehow trumps all the other sentences that called for immediate and big action. I don’t know. I must have missed it.

Confused?

I am.

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Bernanke Cautions

Today’s speech by Ben Bernanke has caught quite a bit of attention. So it should. His basic argument is that it far too soon to declare victory in this recovery. Job growth is way too small each month. Moreover what growth there has been is more a function in the reduction of firing than in a surge in new hiring. The economy is simply not generating new jobs at anywhere near fast enough a pace for us to get to sustainable growth any time soon.

We are seeing a significant pick up in activity attributable to a release in pent up demand. That is normal and points to greater confidence on the part of consumers. But it is not enough to fuel a fully fledged recovery with GDP growth sufficient to close the gap between potential activity and our actual activity. That means there is a pool of idle resources sitting around unused, with much of that being unemployed labor.

Bernanke was firing a shot in what appears to be the early stages of a fight against the austerity crowd’s next attempt at retrenchment. The economy is simply not strong enough to carry the burden of cuts in spending. We only have to look at the damage being wrought across Europe to see that the entire notion of austerity driven growth is a complete farce. We, that is to say you and I, never thought it was possible to create growth by cutting spending. Unfortunately there are those, many in very significant jobs, who believe in such nonsense. The Euro experience of the past two years has thoroughly debunked growth austerity, but it clings on due to its ideological strength: it supports a far right economic agenda and works very well in the rarified atmosphere of orthodox economics models. But a cut in spending is a cut in spending and so shrinks the economy. The supposed offsetting surge in confidence, which, in turn, triggers a surge in investment and consumption, hasn’t turned up anywhere where true austerity has been enforced.

Still, Bernnake is concerned enough about the state of our politics that he deemed it necessary to fire this shot across the bows of those who might imagine that the economy is now recovered enough to take a battering.

He is right.

We remain far short of our goal. This is not the time for cuts. Indeed it is more a time for a another dose of medicine.

That we won’t get.

So all we can do is cling on to what we have and make sure the hawks don’t ruin it for us.

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Actual News Not in Davos

In solidarity with the Chinese government I have decided to forego my trip to the annual Davos shindig. I am willing to overlook the fact that, for the second year in a row, my invitation arrived late. Actually it didn’t arrive at all. But I refuse to attend during the Chinese New Year celebrations. How myopic can these folks get? They arranged an international economic forum slap bang in the middle of the new year. Well done. It’s not as if the Chinese are an important factor on the world economic stage or anything.

This gives me a little extra time to dwell on the news here at home.

The US real estate industry closed out an abysmal year with a thud. December’s new homes sales figures were dismal, coming in at 2.2% down from November and scraping along at an annual rate of 307,000 units. That’s a record low. Such is the depression in housing the the US is fast beginning to suffer from a shortage of new homes. Worse: what inventory we have is in all the wrong places, so there is local abundance where there is no demand, and local shortages where demand has survived. Way to go free market!

Overall sales of new homes fell 6.2% in 2011 to a record low of 302,000. Compare that with the peak reached in 2005 of 1,280,000. This is the worst year for sales since records began in 1963, and there doesn’t appear to be much sign of a break out.

December’s rotten record comes despite very favorable conditions: the weather was relatively warm in those parts to they country where winter can cramp sales; interest rates are low so mortgages are cheap; and prices are being heavily discounted as builders try to salvage something from the debris of the industry. None of these factors was sufficient to entice buyers, who remain in heavy retrenchment mode focused on debt reduction rather than new big ticket purchasing.Today’s report reinforced the gloom of yesterday’s news about pending home sales which were down 3.5% in December, which merely adds to the notion that there is no recovery in sight.

The only glimmer of hope – and it is only a glimmer – was the news that the FHFA index of home prices ticked up 1% in November. This index is created using the rates on government guaranteed mortgages only, so its is a relatively limited sample. Plus it is not a measure of the re-sale value of homes which is better captured by the Case-Shiller index. It really doesn’t matter though. Both indices say the same thing: home prices are down and seemingly are staying down. In the case of the FHFA home prices were down 1.8% for 2011 as a whole, and are off 18.8% from their peak in 2007. The Case-Shiller index is less up to date. The last data we have was released in late December and covers 2011 up to October, when prices were down roughly 3.0% for the year. The key point being made by the Case-Shiller index is that the recovery in prices we saw back in 2009/2010 has ben reversed somewhat, with the market softening throughout last year.

Meanwhile the Fed had made significant changes to the way in which it tells us what it’s doing. It has made public its medium term expectation for interest rates in an attempt to be more transparent about monetary policy. It also made public its inflation target.

The key news from the Fed is that it expects to hold short term rates at their current levels through until the end of 2014. That is not good news. It implies that the Fed doesn’t see robust growth during that period, or at least sufficient growth to force a tightening of monetary policy. The economy really does suck as much as we all feel it does.

One impact of the Fed’s announcement was to bring long term rates down. This was obviously part of the Fed’s intention. The markets now have a very clear idea of the rate structure over the next few years. This lessens risk and makes investment more straightforward. Today’s reaction in the credit markets saw rates on the five year Treasury bond down below 2%, with the two treasury rate slipping to 0.2%. At these levels we need a microscope to detect a slope in the yield curve. On a serious note: these kind of rates mean that a five year bond is almost as good as cash. This is uncharted territory, and bears close attention.

The other announcement the Fed made, about the target inflation rate being 2.0%, was a bit of a downer. That’s too low. As we try to spark a little life in our stagnant economy a couple of years of 5% inflation would help to hasten debt reduction and thus to free up cash for consumption. No such luck. Although with recent inflation being between 1.5% and 2.0%, we are clearly below the target and thus have no reason whatever for tightening. On the contrary: we are under-shooting the target. This is a reason to try to inject a little inflation. At the very least we look set for years more of very loose money.

One last thing: today’s report on new claims for unemployment assistance showed a retreat from last week’s improvement. There was a sharp climb back to 377,000, which was more than most analysts expected. The data has bounced around a bit lately because of the ebb and flow of seasonal jobs. The seasonal adjustments seem to have exaggerated the improvement last week and, perhaps, the worsening this week. The four week average has seen a slight steady gain, and it too has arrived at the 377,000 mark. The best we can say about the job market is that its tone has improved a bit from the beginning of 2011, but not significantly enough to be called a breakthrough.

We have a long slow slog ahead.

That is unless we get more enlightened economic policy. The odds of that are less than of me winning the lottery. Which makes the prospects for further stagnation a sure thing.

And that’s not good at all.

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