MacroScope

Shock now clearly trumps transparency in central bank policymaking

The days of guided monetary policy, telegraphed by central banks and priced in by markets in advance, are probably coming to an end if recent decisions around the world are any guide.

From Turkey, which hiked its overnight lending rate by an astonishing 425 basis points in an emergency meeting on Tuesday, to India which delivered a surprise repo rate hike a day earlier, central banks are increasingly looking to “shock and awe” markets into submission with their policy decisions.

A wide sample of economists polled by Reuters on Monday already expected a massive rise of 225 basis points by Turkey’s central bank to stop a sell-off in the lira. Instead it doubled the consensus and opted for the highest forecast.

Gizem Oztok Altinsac, chief economist at Garanti Securities in Istanbul, who correctly called the size of the Turkish rate hike said:

I was expecting this kind of a move because Brazilian interest rates are at 11 percent and they (Turkey) have to give something close to that and maybe somewhat above.

Auto-pilot QE and the Federal Reserve’s taper dilemma

 It wasn’t supposed to be this way.

When the U.S. Federal Reserve launched its third round of quantitative easing, or QE3, it was hailed as an “open-ended” policy that would last as long as needed. Most important for investors, the pace of the bond buying – which started at a somewhat arbitrary $85 billion per month – would be “data dependent.” Especially throughout the spring, officials stressed they were serious about adjusting the dial on QE3 depending on changes in the labor market and broader economy. But as the unemployment rate dropped to 7.3 percent last month from 8.1 percent when the program was launched in September, 2012, the bond-buying has effectively been on auto-pilot for 14 straight months.

Now, some are wondering whether the decision not to at least tinker with the program has made the first so-called taper a bigger deal than it needed to be. “When you don’t react to small changes in the data with small changes in the policy then the markets tend to read more into it when you do change policy,” St. Louis Fed President James Bullard said last week after a speech in Arkansas. “It makes policy a little more rigid than it maybe should be.”

Bullard, who in June cited falling inflation when he dissented against a Fed policy decision to stand pat, continued:

ECB rate cut takes markets by surprise – time to crack Draghi’s code


After today’s surprise ECB move it is safe to forget the code words former ECB President Jean-Claude Trichet never grew tired of using – monitoring closely, monitoring very closely, strong vigilance, rate hike. (No real code language ever emerged for rate cuts, probably because there were only a few and that was towards the end of Trichet’s term.)

His successor, Mario Draghi, has a different style, one he showcased already at his very first policy meeting, but no one believed to be the norm: He is pro-active and cuts without warning. Or at least that’s what it seems.

Today’s quarter-percentage point cut took markets and economists by surprise.

Time to taper the taper talk?

It’s been three months since the Federal Reserve first hinted that it’s going to have to ease off on its extraordinary monetary stimulus, but financial markets are still not settled on the matter.

But while volatility is on the rise – surely partly a result of thinned trading volumes during the peak summer vacation season – the consensus around when the Fed will start cutting back hasn’t budged.

That makes endless daily reports from traders linking that to the latest falls in asset prices, particularly U.S. Treasuries and non-U.S. share prices, not terribly convincing.

Brazil’s capital controls and the law of unintended consequences

Brazilian economic policy is fast becoming a shining example of the law of unintended consequences. As activity fades and inflation picks up, the government has tried several different measures to fix the economy – and almost every time, it ended up creating surprise side-effects that made matters worse. Controls on gasoline prices tamed inflation, but opened a hole in the trade balance. Efforts to reduce electricity fares ended up curbing, not boosting, investment plans.

Perhaps that’s the case with yesterday’s surprise decision to scrap a key tax on foreign inflows into fixed-income investments. The so-called IOF tax was one of Brazil’s main defenses in its currency war, making local bonds less appealing to speculators and helping prevent an excessive appreciation of the real.

As the Federal Reserve started to discuss tapering off its massive bond-buying stimulus, investors began to flock back to the United States. So with less need to impose capital controls, Brazil thought it would be a good idea to open its doors again to hot money. Analysts overall also welcomed the move, announced by Finance Minister Guido Mantega in a quick press conference on Tuesday, in which he said that excessive volatility is “not good” for markets and that Brazil was headed to a period of “lesser” intervention in currency markets.

Bullard weighs in on his colleague’s challenge to the ‘Bernanke doctrine’

Earlier this month, Fed Governor Jeremy Stein made waves that are still rippling with a speech on the risks of credit bubbles. The policymaker said that the U.S. central bank could use interest rates, as opposed to the more conventional tool of regulation, to cool overheating in junk bonds and other markets.

With worries growing that the Fed’s easy-money policies are inflating dangerous bubbles in financial markets, the speech could portend an earlier-than-expected reversal of quantitative easing or raising of ultra low rates. But don’t take my word for it. Here’s what St. Louis Fed President James Bullard had to say about Stein’s speech, when he visited New York University last week:

“My main takeaway from the speech … was that he pushed back against the Bernanke doctrine. The Bernanke doctrine has been that we’re going to use monetary policy to deal with normal macroeconomic concerns, and then we’ll use regulatory policies to try to contain financial excess. And Jeremy Stein’s speech said, in effect, I’m not sure we’re always going to be able to take care of financial excess with the regulatory policy. And in a key line he said, raising interest rates is a way to get into all the corners of the financial markets that you might not be able to see, or you might not be able to attack with the regulatory approach. So I thought this was interesting. And I would certainly think that everybody should take heed of this. This is an argument that, maybe you should think about using interest rates to fight financial excess a little more than we have in the last few years.”

Does the European crisis need to get worse to get better?

Europe will do what it takes to save the euro, after it tries everything else. That seems to be the conventional wisdom about the continent’s muddled handling of a financial crisis now well into its third year.

The latest whipsaw came this week when, having hinted at aggressive action on the part of the European Central Bank, its president, Mario Draghi, backtracked a bit by saying the ECB “may” take further non-standard measures such as purchases of government bonds of countries like Spain and Italy, which have come under extreme market pressure.

John Praveen, chief investment strategist at Prudential International Investments Advisers, notes Draghi appears to have attached a new condition to ECB bond buys. Those countries must first ask for a formal bailout from the European Union, which they are reluctant to do because of the tough austerity measures that would then be imposed on them.

Germany’s zero bound

The ultra-low rates offered by two-year German bonds reflect just how worried investors have become about the euro zone debt crisis and the continent’s sluggish economy.

Two-year German debt is currently yielding only 0.09 percent. That is less than the 0.11 percent offered by equivalent bonds in Japan – whose central bank has been grappling with deflation for some two decades. It is also below the 0.26 percent offered by similar U.S. Treasuries after the Federal Reserve more than tripled the size of its balance sheet compared to pre-crisis levels.

Elwin de Groot, senior market economist at Rabobank, expects the euro zone’s sluggish economy and intractable debt crisis to continue to favour a safety bid as long as policymakers do not take steps towards a closer fiscal union. He sees the two-year German bond yield hitting zero in three to six months and ten-year benchmark yields falling to 1.40 percent over the same period from 1.59 percent currently.

Selective transparency at the Fed

It’s something of a dissonant communications strategy: Fed officials are willing to tell us what they think will happen three years from now, but not what they discussed three years ago.

The Federal Reserve’s public relations arm holds up the chairmanship of Ben Bernanke as a model of transparency. And it’s true. Press conferences and federal funds rate forecasts are major steps forward for a central bank that until the mid-1990s didn’t even tell the markets what it was doing with interest rates.

Still, the old habits of secrecy die hard. Monetary policy transparency aside, the Fed has remained adamantly opaque in other ways – to the point that it took a Bloomberg News lawsuit for it to name the recipients of emergency era loans.

from Jeremy Gaunt:

Twisted Sister and the Federal Reserve

The Federal Reserve's "Operation Twist" has set the literary- and musical-allusion juices flowing.  It is all about the Fed selling or not rolling over short-term debt and buying long-term bonds instead in order to keep borrowing costs low.

But that is frightfully dull for economists, analysts and reporters trying to get attention for their work. So, so far we have heard:

-- "Let's Twist Again", a reference to the 1960's Chubby Checker record about the dance craze . Problem is that the second line is "Like we did last summer", and the Fed did nothing of the sort, launching plain old quantative easing instead.