Why hasn’t ultra-easy monetary policy revived global economic growth? Why is the global economy increasingly mired in secular stagnation despite record-low interest rates and the flood of central bank liquidity? Last year, the supply of global liquidity, measured as the sum of non-gold international reserves held by all central banks plus the Fed’s holdings of US Treasuries and Agencies, rose to a record $16.6 trillion during August. That’s up $8.7 trillion, or 116%, since the start of 2009.

Central banks responded to the financial crisis of 2008 by pumping lots of liquidity into the global economy since then. They also lowered their official interest rates close to zero, with some of them now below zero. Bond yields are at historical lows in most of the major advanced economies. Rather than deleveraging, borrowers around the world were enabled by the central banks to borrow more.

The problem is that easy money has been around for a long time, and seems to be losing its effectiveness in stimulating economic growth. During the previous two decades, many of the borrowers were consumers of commodities, goods, and services. Their debt-financed spending boosted economic growth. That encouraged producers to expand their capacity by borrowing as well. In recent years, easy money seems to have lost its ability to boost consumption, while enabling producers to stay in business.

The result has been mounting deflationary pressures. The major central bankers have responded by lowering their interest rates to zero and providing more liquidity through various QE programs. They’ve been doing so since the financial crisis. That’s more than six years, yet secular stagnation seems to be spreading along with deflationary forces around the world.

In addition, populist politicians are gaining power, especially in the Eurozone and particularly in Greece. They want to end their governments’ austerity measures. In other words, they want to reduce the burden of the debts that their countries and countrymen accumulated during the so-called “debt super-cycle” of the past couple of decades. That means restructuring their debts by forcing lenders to extend maturities, to lower borrowing rates, to take haircuts, or to accept defaults. Of course, the last option is the one that would put a stake in the heart of the debt super-cycle and destroy the credibility of the central banks.

Is there a solution to this mess? Beats me. Central banks have been going down this road for a long time. They are likely to continue doing what they have been doing without recognizing how they might have inadvertently created the mess. Their mess has spread to the foreign exchange market, triggering an undeclared currency war. The central bankers have declared that their ultra-easy monetary policies aren’t aimed at driving down their currencies, but that’s what they are doing.

The Bank of Japan’s contribution to Abenomics was to devalue the yen with its QQE program. The currency plunged 34% from September 13, 2012 through yesterday. ECB President Mario Draghi started talking the euro down late last summer, and pushed it lower with the QE program announced last week. The euro is down 19% from last year’s high on May 6. Commodity currencies are plunging around the world because the commodity super-cycle wasn’t as super as many producers had anticipated when they expanded their capacity.

Instead of fretting over where this is all leading, let’s take a brief stroll down Memory Lane to recall how we got here:

(1) Fed. The Fed provided lots of easy money since the late 1980s. Under Fed Chair Alan Greenspan, the result was a bubble in high-tech stock prices during the late 1990s and a housing bubble during the previous decade. Under Fed Chair Ben Bernanke and now Janet Yellen, bond and stock prices have soared. Home prices have recovered.

The economy finally seems strong enough that Fed officials are aiming to start raising interest rates at mid-year. The problem is that the soaring dollar is pushing inflation further below the Fed’s 2% target. In addition, it is depressing corporate profits, causing companies to reduce their labor costs, which may continue to keep wage inflation around 2%, below the Fed’s 3%-4% preference.

This increases the likelihood of either one-and-done or none-and-done for rate-hiking this year. Yesterday’s FOMC statement reiterated: “Based on its current assessment, the Committee judges that it can be patient in beginning to normalize the stance of monetary policy.” The word “patient” is ambiguous enough that the FOMC dropped the “considerable time” phrase without upsetting the markets yesterday.

(2) ECB. The introduction of the euro at the start of 1999 caused bond yields to converge in the Eurozone as investors no longer distinguished between the credit risk of the different members of the monetary union.

The spread between both Spanish and Italian government bond yields versus the comparable German yield narrowed to zero during the previous decade. Spreads widened again at the beginning of the current decade, but narrowed significantly after Mario Draghi pledged to do whatever it takes to defend the euro on July 26, 2012.

ECB data show that loans to the Eurozone private sector soared by €4.0 trillion to a record €11.1 trillion from the start of 2004 through the end of 2011. As of November 2014, this debt measure was down to €10.4 trillion. In other words, the ECB’s various attempts to revive lending since the financial crisis have failed. That might be because borrowers are already maxed out on their ability to service more debt.

(3) PBOC. The Chinese responded quickly to the financial crisis of 2008 with a large fiscal stimulus program and lots of easy money. Banks were encouraged to lend freely, which they did. Bank loans soared by $8.9 trillion from the end 2008 to a record high of $13.3 trillion at the end of last year. Yet China’s economic growth continues to slow as the economy gets less bang-per-yuan of borrowing.

(4) BOJ. Last Wednesday, the BOJ monetary policy committee cut its core inflation forecast to 1.0% for the fiscal year starting in April from 1.7%. Despite the latest QE (introduced on April 4, 2013) and then QQE (October 31, 2014) under Abenomics, Japan’s monetary policymakers can’t seem to get core inflation up to 2%.

The BOJ has succeeded in devaluing the yen and boosting stock prices. But it is distorting the bond market. Thanks to QQE purchases by the BOJ, the Japanese 10-year government bond yield was down to only 0.28% yesterday. The 30-year yield was 1.29%. The flattening of the yield curve near zero is bad news for financial companies, especially insurance companies and banks.

Already some forex watchers are watching out for a Swiss-style jump in the yen if the BOJ finds that it’s getting harder to buy JGBs because no one wants to sell them.

(Based on an excerpt from YRI Morning Briefing)

The ECB’s decision last Thursday to implement Q€ wasn’t a surprise. Nevertheless, the details of the plan as presented by ECB President Mario Draghi in his follow-up press conference provided some shock-and-awe to global financial markets. Let’s review the key elements of the program:

(1) Bigger size. Before the meeting of the ECB’s Governing Council on Thursday, the financial press was full of stories reporting that unnamed sources said that bond purchases would be €50 billion per month. Draghi said the purchases would be €60 billion per month starting in March through the end of September 2016. That would add €1.1 trillion to the ECB’s balance sheet over that period. Draghi said that this purchase program includes the existing one for asset-backed securities and covered bonds, which is around €10 billion per month.

(2) Open-ended. The big surprise was that the program might continue beyond September 2016. Draghi said that the purchases “will in any case be conducted until we see a sustained adjustment in the path of inflation which is consistent with our aim of achieving inflation rates below, but close to, 2% over the medium term.”

(3) Long bonds. As noted above, Draghi said that the maturities of the bonds purchased by the ECB would be between two years and 30 years. That certainly exposes the central bank to some risk if it succeeds in boosting inflation back to 2%, since yields would rise in that scenario. No one asked Draghi about that at the press conference.

(4) Risk sharing. The bulk of the bond purchases will be by the national central banks (NCBs) under the direction of the ECB. The NCBs and ECB will share any losses attributable to the securities of European institutions, which will account for 12% of Q€ assets. The same goes for an additional 8% of additional assets that will be held by the ECB. According to the press release: “This implies that 20% of the additional asset purchases will be subject to a regime of risk sharing.” In other words, the NCBs will be at risk on their own for 80% of the assets purchased under the program. That shows the contortions that were necessary to get the deal done.

(5) Immaculate conception. Incredibly, notwithstanding the historic significance of the ECB’s Q€ and the ongoing controversy about it, particularly in Germany, the Governing Council adopted it without a formal vote. Draghi said that “there was a large majority on the need to trigger it now, and so large that we didn’t need to take a vote.” In other words, none of the members wanted to be on the record as having voted for it! Indeed, there was “a good discussion” on whether it needed to be implemented right away.

(6) Greasing Greece. Draghi was asked whether or not the ECB will purchase Greek debt. He responded as follows: “We don't have any special rule for Greece. We have basically rules that apply to everybody. There are obviously some conditions before we can buy Greek bonds. As you know, there is a waiver that has to remain in place, has to be a program. And then there is this 33% issuer limit, which means that, if all the other conditions are in place, we could buy bonds in, I believe, July, because by then there will be some large redemptions of SMP bonds and therefore we would be within the limit.”

In Sunday’s election, Alexis Tsipras’s Coalition of the Radical Left, known by its Greek acronym of “Syriza,” took 36.5% of the vote compared with 27.7% for Prime Minister Antonis Samaras’s New Democracy, according to official projections. Campaigning on an anti-austerity program, Tsipras pledged to negotiate a write-down of Greek debt and to abandon budget constraints that were imposed in return for aid. Samaras warned that would risk Greece’s exit from the Eurozone.

The return of Grexit fears could increase financial stress in the region again, and offset whatever stimulative impact Q€ might have. On the other hand, it could send the euro down faster to parity with the dollar.

The big question, of course, is will Q€ work, barring a Grexit? It’s possible, though not very likely, in my view. The Eurozone’s economy has been stagnating since 2011. Interest rates had already fallen sharply since Draghi’s whatever-it-takes sermon on July 26, 2012. It’s not obvious how Q€ will boost bank lending, which is a much more important source of funds for borrowers than the capital markets in the Eurozone. However, the sharp drop in the euro only started last summer, and it might lift Eurozone exports.

(Based on an excerpt from YRI Morning Briefing)

On Monday, Bloomberg reported that both FRB-San Francisco President John Williams and FRB-Atlanta President Dennis Lockhart expect to vote on the FOMC to start raising interest rates around mid-year. The minutes of the December 16-17 FOMC meeting suggested that lift-off could start at the April 28-29 meeting. More likely now is that the statement released immediately after that meeting might prepare the financial markets for such a decision at the June 16-17 meeting, which will be followed by a press conference with Fed Chair Janet Yellen.

However, Williams, who was the director of research when Yellen ran the FRB-SF until he succeeded his boss when she left during March 2011, hedged his bet, saying in the phone interview with Bloomberg:

I would expect by June that the argument pro and con for lifting off rates will be probably a close call. … If inflation data come in significantly softer than expected and we’re not seeing some kind of better growth in wages, those are clearly factors that I’d be taking into consideration in the timing of liftoff.

In a speech in Atlanta on Monday, Lockhart said:

At the recent meeting of the FOMC in December, the Committee made an adjustment of its forward guidance by introducing the theme of patience in beginning to normalize the stance of policy. I supported and expect to continue to support a patient approach, one that is relatively cautious and conservative as regards the pace of normalization of rates.

(Based on an excerpt from YRI Morning Briefing)

For quite a while, I’ve described Fed Chair Janet Yellen as the “Fairy Godmother of the Bull Market.” Apparently, FRB-Chicago President Charles Evans aspires to be the “Fairy Godfather of the Bull Market.” He certainly was last Thursday when the S&P 500 soared 1.8% on news reports that he said, “I don’t think we should be in a hurry to increase interest rates.” Evans said so during a discussion at the University of Chicago. Later in the presentation, he said such a move to tighten too soon would be a “catastrophe.” He appeared Friday morning on CNBC to give us all the opportunity to hear the same basic message directly from him.

He was interviewed right after the release of December’s employment report, which showed that the jobless rate fell to 5.6% from 5.8% the month before. That’s the lowest since June 2008. The short-term unemployment rate fell to 3.8%, the lowest since November 2007. However, Evans focused on average hourly earnings, which fell 0.2% m/m during December and was up only 1.7% y/y, the lowest since October 2012. He reiterated that he prefers to be “patient” before raising interest rates until wage inflation moves higher and price inflation rises back up to 2%.

On a few occasions late last year, I wrote that Evans is an important FOMC member. He is a voter this year on the FOMC. He is among the most dovish members of the committee. His views very often coincide with those of fellow doves Fed Chair Janet Yellen and FRB-NY President Bill Dudley. Evans first publicly counselled a “patient” approach to monetary normalization in a CNBC interview on 9/29 last year. Lo and behold, that word appeared for the first time in the 12/17 FOMC statement last year: “Based on its current assessment, the Committee judges that it can be patient in beginning to normalize the stance of monetary policy.” The phrase also appeared three times in the minutes of that meeting, which was released last Wednesday. Let’s review some of its highlights:

(1) Interestingly, the dollar continued to soar on Thursday despite Evan’s suggestion that the Fed’s lift-off of interest rates should be postponed. That might be because the minutes reported:

With lower energy prices and the stronger dollar likely to keep inflation below target for some time, it was noted that the Committee might begin normalization at a time when core inflation was near current levels, although in that circumstance participants would want to be reasonably confident that inflation will move back toward 2 percent over time.

In other words, the Fed might be less patient than Evans would like. I am betting on Evans, which is why I think "one-and-done," or even "none-and-done," is more likely than normalization, i.e., a series of rate hikes later this year.

(2) The minutes defined the FOMC’s patience as follows:

Most participants thought the reference to patience indicated that the Committee was unlikely to begin the normalization process for at least the next couple of meetings.

That confirmed Yellen’s view on this subject, which she expressed at her 12/17 press conference. The next two meetings are on January 27-28 and March 17-18. So normalization might begin at the April 28-29 meeting, though I doubt it.

(3) I think that the strong dollar and weak overseas economic growth may increase the Fed’s patience. The minutes noted:

Many participants regarded the international situation as an important source of downside risks to domestic real activity and employment, particularly if declines in oil prices and the persistence of weak economic growth abroad had a substantial negative effect on global financial markets or if foreign policy responses were insufficient.

Exports of goods now account for 9.3% of current dollar GDP, up from 6.8% ten years ago. Real merchandise exports remained on an upward trend during November, rising 2.6% y/y. Some of the recent strength was attributable to exports of petroleum products, which are likely to decline as US production falls along with oil prices. If the dollar continues to strengthen and global economic growth remains lackluster, other exports might start to weaken too.

The Fed’s patience is also likely to persist as long as wage inflation remains around 2% rather than rising to 3%-4% as Yellen previously said she would like to see happen. As noted above, Evans is concerned that it actually declined to 1.7% y/y during December. So it’s heading in the wrong direction.

A 1/9 Bloomberg article on this subject titled “The Wage Weakness May Not Be as Bad as It Seems” reports: “Stores and online merchants hired a larger-than-usual army of seasonal workers to help keep up with the demand for holiday gift-giving. Amazon.com Inc. prepared for the crush this year by adding 80,000 seasonal workers, up from 70,000 last year.”

FRB-Atlanta Fed President Dennis Lockhart in an interview with Bloomberg news on Friday said, “I am prepared to look at the earnings numbers as potentially noise or month-to-month fluctuations that are not really telling of any condition in the economy that we have to worry about.” Yet he too is willing to be patient: “I don’t see a reason yet to accelerate my assumption of when a policy move might be appropriate.” He also gets to vote on the FOMC this year.

(Based on an excerpt from YRI Morning Briefing)

Thank you, Janet Yellen! You didn’t disappoint me. You are still the “Fairy Godmother of the Bull Market!” As I’ve noted many times before, the S&P 500 tends to rise after Yellen speaks about the economy and monetary policy. The S&P 500 soared 4.5% on Wednesday and Thursday in response to the dovish FOMC statement and Yellen’s bullish press conference.

On Wednesday, I wrote:

However, the plunge in oil prices and the turmoil in the junk bond market might increase the likelihood that the Fed will delay the so-called "lift-off" of interest rates beyond mid-2015. "None and done" in 2015 is a distinct possibility for Fed policy. Let’s see what Fed Chair Janet Yellen has to say later today. I’m counting on her to continue to be the "Fairy Godmother of the Bull Market.”

On Tuesday, I wrote, “The FOMC might surprise us and keep ‘considerable time’ in the statement.” I noted that inflationary expectations are falling. I also wrote:

The distress in the junk bond market might also dissuade the FOMC from changing the "considerable time" language. In any case, Fed Chair Janet Yellen’s press conference on Wednesday afternoon could have a big impact on the markets. I’m still betting that she is the "Fairy Godmother of the Bull Market.”

On Monday, I noted that FRB-Chicago President Charles Evans, one of the Fed’s uber-doves, has called on his colleagues to be patient and to delay raising interest rates.

Wednesday’s FOMC statement confirmed my analysis:

Based on its current assessment, the Committee judges that it can be patient in beginning to normalize the stance of monetary policy. The Committee sees this guidance as consistent with its previous statement that it likely will be appropriate to maintain the 0 to 1/4 percent target range for the federal funds rate for a considerable time following the end of its asset purchase program in October, especially if projected inflation continues to run below the Committee's 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.

The FOMC remains dovish and patient. It will be even more dovish and patient next year when Evans will be a voter. Two of the three dissenters (Richard Fisher and Charles Plosser) were hawks, who are retiring. The FOMC has to be concerned about the financial stresses caused by the plunge in oil prices and the strength of the dollar, as evidenced by the spike in junk bond yields and the selloffs in the bonds, stocks, and currencies of emerging economies. That’s why they are willing to be patient for a considerable time longer.

(Based on an excerpt from YRI Morning Briefing)

The Fed has three choices, as I’ve discussed in the past. Normalization would be great in theory. In reality, the odds increasingly favor “none and done,” more so than even “one and done.” While the labor market warrants tightening sooner rather than later, inflationary expectations are falling fast as oil prices plunge and the dollar strengthens.

On October 13, FRB-Chicago President Charles Evans gave a speech titled “Monetary Policy Normalization: If Not Now, When?” Back then he said:

Looking ahead, I am concerned about the possibility that inflation will not return to our 2 percent PCE target within a reasonable period of time. First, the recent monthly inflation numbers have been low, so there is not much upward momentum. Second, as I mentioned earlier, wage growth has been relatively low for some time. While wages don’t predict future inflation, the two often move together. And, third, it does not appear as if inflationary expectations are exerting much of an upward pull on actual inflation at the moment. ...

To summarize, I am very uncomfortable with calls to raise our policy rate sooner than later. I favor delaying liftoff until I am more certain that we have sufficient momentum in place toward our policy goals. And I think we should plan for our path of policy rate increases to be shallow in order to be sure that the economy’s momentum is sustainable in the presence of less accommodative financial conditions. I look forward to the day when we can return to business-as-usual monetary policy, but that time has not yet arrived.

(Based on an excerpt from YRI Morning Briefing)

FRBNY President Bill Dudley gave a speech on Monday titled, “The 2015 Economic Outlook and the Implications for Monetary Policy.” His views matter because he is on the FOMC and reflects the views of the dovish majority of the committee. He and Fed Chair Janet Yellen tend to have nearly identical views. Here are a few highlights of his speech:

(1) In general, he paints a reasonably positive picture of the economy and says, “if my own forecast is realized, I would expect to favor raising the FOMC’s federal funds rate target sometime in 2015.”

(2) He says that several of the “headwinds” restraining US economic activity in recent years have subsided. The housing industry is in better shape. So are consumers. There is much less fiscal drag. Financial conditions are good: “Equity prices are high, borrowing costs are low, cash flows are strong and corporate balance sheets are healthy.”

(3) Lower energy costs should “lead to a significant rise in real income growth for households and should be a strong spur to consumer spending.” He adds that in the aggregate, “the swing from oil producers to consumers is quite large. For example, a $20 per barrel decline in global oil prices results in an income transfer of about $670 billion per year from producers to consumers.”

(4) On the other hand, he doesn’t expect a boom. He doesn’t see much upside from the current levels of housing starts and auto sales. The global economic slowdown and stronger dollar could weigh on US exports.

(5) Despite the drop in oil prices and the strength of the dollar, he expects that the core PCED inflation rate will move back towards the Fed’s target of 2% next year as resource utilization tightens.

(6) He agrees with market expectations that the Fed will start raising the federal funds rate around mid-2015. However, he is also willing to be patient:

Finally, given the still high level of long-term unemployment and the outlook for inflation, there could be a significant benefit to allowing the economy to run "slightly hot" for a while in order to get those that have been unemployed for a long time working again.

(7) The pace of tightening will depend on the response of the financial markets:

If the reaction is relatively large--think of the response of financial market conditions during the so-called "taper tantrum" during the spring and summer of 2013--then this would likely prompt a slower and more cautious approach. In contrast, if the reaction were relatively small or even in the wrong direction, with financial market conditions easing--think of the response of long-term bond yields and the equity market as the asset purchase program was gradually phased out over the past year--then this would imply a more aggressive approach.

(8) Though all this implies that Fed policy is market dependent, Dudley then denied that the markets’ reactions matter:

Let me be clear, there is no Fed equity market put. To put it another way, we do not care about the level of equity prices, or bond yields or credit spreads per se. Instead, we focus on how financial market conditions influence the transmission of monetary policy to the real economy. At times, a large decline in equity prices will not be problematic for achieving our goals. For example, economic conditions may warrant a tightening of financial market conditions. If this happens mainly via the channel of equity price weakness--that is not a problem, as it does not conflict with our objectives.

Sorry, he lost me there.

(Based on an excerpt from YRI Morning Briefing)

The dramatic rebound in stocks around the world since October 15 once again demonstrates the overwhelming influence of the central banks on global equity markets. The Greenspan and Bernanke Puts have morphed into the puts of the major central bankers. As a result, they’ve made shorting stocks a losing proposition. Underweighting stocks simply because they are overvalued based on historical metrics also has been problematic for conservatively inclined institutional investors, who must at least match if not beat their benchmarks. Consider the following recent chronology of central bank interventions that have boosted stock prices:

(1) Bullard bounce. On Thursday, October 15, the dramatic rebound in stock prices from their lows was triggered by a comment by FRB-St. Louis President James Bullard that the Federal Reserve should consider extending its bond-buying program, currently at $15 billion per month, beyond October due to the market selloff--allowing more time to see how the US economic outlook evolves. Yet in his interview with Bloomberg News, Bullard also said he still believes that the FOMC should start raising the federal funds rate in March of next year.

Then after the FOMC meeting in late October, Bullard praised the Fed’s decision to end the bond purchases. He reiterated that he favors starting to raise interest rates next spring, ahead of the mid-year consensus among his FOMC colleagues. In an interview summarized in the 11/20 WSJ:

Bullard attributed some of the confusion to the fact that many market participants didn’t listen closely enough to what he said. He allowed that monetary policy making has become far more complex and thus more challenging to communicate. But he underscored an underlying consistency to his view, noting what he said about the Fed’s bond-buying program hadn’t altered his long-running view that short-term interest rates should be lifted off their current near zero levels next spring.

(2) Kuroda shock. On Friday, October 31, in a surprise move, the Bank of Japan (BOJ) stated that it is upping the ante on the QQE monetary stimulus program that was announced on April 4, 2013. The BOJ’s press release raised JGB purchases to an annual pace of 80 trillion yen from 50 trillion yen. The pace of buying was tripled for both ETFs (3 trillion yen) and J-REITs (90 billion yen). At the current exchange rate, ETF purchases would amount to about $27 billion. That’s not that much given that the market capitalization of the Japan MSCI is $2.7 trillion currently. So what’s all the excitement about?

The latest program is open-ended, according to the latest press release: “The Bank will continue with the QQE, aiming to achieve the price stability target of 2 percent, as long as it is necessary for maintaining that target in a stable manner.” The time horizon for achieving this goal was about two years in the 2013 press release.

On Friday, November 21, Japan’s finance minister told a news conference that the speed of the yen’s recent decline was “too fast.” He added, “There is no doubt about that.” Last Tuesday, November 25, the minutes of the October 31 meeting of the BOJ's governing board showed that the hurdle to further quantitative easing is high. Some board members were concerned that expanding the central bank's quantitative easing could raise the risk that it would be seen as financing the government deficit.

(3) Draghi’s pledge. On 10/11, Bloomberg reported that ECB President Mario Draghi told reporters in Washington that expanding the ECB’s balance sheet is the last monetary tool left to revive inflation, although there is no target for how much it might be increased. He said, “I gave you a kind of ballpark figure, say about the size the balance sheet had at the start of 2012.” That would be a remarkable increase of €1.0 trillion. On 11/21, in a keynote speech in Frankfurt, Draghi said that the ECB will “do what we must to raise inflation and inflation expectations as fast as possible.” In effect, he backed US-style quantitative easing.

Speaking in Finland on 11/27, Draghi said that the Eurozone needs a comprehensive strategy including reforms by governments to get it back on track. His comments and weak CPI data released on Friday lowered the euro to $1.246 and triggered a new set of record-low bond yields for the Eurozone's biggest economies, with France’s 10-year yield dropping below 1% for the first time.

The Eurozone flash CPI estimate rose just 0.3% y/y in November, down from 0.4% in October. Bank loans to nonfinancial corporations fell €132.0 billion (saar) during October, the ninth consecutive monthly decline, and the 26th in 27 months.

(4) Chinese rates. The People's Bank of China cut its benchmark one-year loan interest rate on Friday, November 21, to 5.6% from 6.0% and cut its benchmark one-year deposit rate to 2.75% from 3.00%. The nation's central bank also hiked the upper limit on deposit interest rates to 1.2 times the benchmark rate from 1.1 times the benchmark rate. The bank said that it took the actions, which were largely unexpected and are the first such changes since July 2012, in response to expensive borrowing costs rather than any direct worries about the economy's slowdown. Chinese bank loans rose 13.2% y/y during October, the weakest growth since November 2008.

(Based on an excerpt from YRI Morning Briefing)

There were no surprises in yesterday’s FOMC statement, in my opinion. A few Fed watchers thought it was more hawkish than they expected. The statement noted: “Labor market conditions improved somewhat further, with solid job gains and a lower unemployment rate. On balance, a range of labor market indicators suggests that underutilization of labor resources is gradually diminishing.”

That’s not hawkish. It’s a fact and makes sense given that the FOMC wanted to give the QE program lots of credit for the improvement in the labor market now that it has been terminated. That notion was reinforced by the following comment: “The Committee judges that there has been a substantial improvement in the outlook for the labor market since the inception of its current asset purchase program.” In other words, Mission accomplished.

I’m sure Fed officials were pleased by the headline for this story on Reuters: “Fed ends bond buying, shows confidence in U.S. recovery.” That’s undoubtedly the message they wanted to send.

The boilerplate “considerable time” clause remained in the latest statement:

The Committee anticipates, based on its current assessment, that it likely will be appropriate to maintain the 0 to 1/4 percent target range for the federal funds rate for a considerable time following the end of its asset purchase program this month, especially if projected inflation continues to run below the Committee’s 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.

So inflation might remain lower than the FOMC expects. Then again, pay no attention to any of this so-called “forward guidance” because it all depends: “However, if incoming information indicates faster progress toward the Committee’s employment and inflation objectives than the Committee now expects, then increases in the target range for the federal funds rate are likely to occur sooner than currently anticipated. Conversely, if progress proves slower than expected, then increases in the target range are likely to occur later than currently anticipated.”

President Harry S. Truman famously lamented: “Give me a one-handed economist! All my economists say, ‘On the one hand, on the other.’” There certainly are lots of the two-handed variety working at the Fed. In what sense does all this nonsense constitute “forward guidance”?

I was asked yesterday how long before the Fed starts hiking rates might the FOMC drop the “considerable time” phrase. I figure three months. Here is the FOMC’s meeting schedule for next year through the summer, with asterisks marking the meetings with press conferences: January 27-28, March 17-18*, April 28-29, June 16-17*, and July 28-29. Odds are that “considerable time” will be dropped at the March meeting, giving Fed Chair Janet Yellen the opportunity to explain why at her press conference. The first hike might be announced after the June meeting, giving Yellen another opportunity to discuss the committee’s decision.

In this scenario, the question will be whether this would be the beginning of the gradual normalization of monetary policy with small rate hikes in subsequent meetings. It should be, unless the first hike unleashes lots of turmoil in financial markets. That would be the “one and done” alternative scenario.

(Based on an excerpt from YRI Morning Briefing)

The FOMC statement this afternoon isn’t likely to pull any tricks. Given the strength in stock prices so far this week, investors might be expecting some treats. It’s likely that Fed officials were spooked by the violent selloff in stocks earlier this month. So at their pre-Halloween two-day meeting that ends today, they might decide not to surprise the markets one way or the other now that stocks have rebounded. In other words, there might not be any significant changes in the language that appeared in the previous FOMC statement on September 17. If so, then no news should be good news.

For the market, the treat would be if today’s statement still includes the following language from the previous one: “The Committee continues to anticipate, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends, especially if projected inflation continues to run below the Committee's 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.”

After the release of September’s strong employment report on October 3, the odds of dropping the “considerable time” boilerplate of the past couple of years seemed to have increased, especially since QE was about to end. However, the turmoil in financial markets during the first half of the month might dissuade the committee from deleting it.

In a 10/19 WSJ interview, Boston-FRB President Eric Rosengren said:

So we’ll have to think about exactly what’s the appropriate wording and certainly the financial context that we’re in given the volatility we’ve seen in markets. We’re going to have to weigh how best to avoid further unsettling markets that seem to have unsettled themselves pretty well on their own. So we’ll have to take all those things into consideration. I can’t give you precise language because I think it’s really a committee decision.

In other words, Rosengren and many of his colleagues on the FOMC aren’t just “data dependent.” They are also “market dependent.” Of course, there’s a long tradition for this at the Fed starting with the Greenspan Put and followed by the Bernanke Put. I’ve noted that Fed Chair Janet Yellen has been the “Fairy Godmother” of the bull market since she first joined the Fed as a governor during October 2010. Stocks have usually rallied whenever she has spoken publicly about the economy and monetary policy.

The Fed has been criticized for worsening wealth and income inequality with its NZIRP (near-zero interest-rate policy) and QE policies. Ultra-easy monetary policy has done more to enrich the rich who own stocks than to help the economy. Low interest rates have certainly hurt fixed-income investors.

In his interview, Rosengren, who is in the dovish majority on the FOMC, countered:

The biggest factor that affects inequality is losing your job because if you have no income the income disparity is quite large. So being focused on getting labor markets back to where we think full employment is I think is the most tangible way that monetary policy can impact income inequality.

Then he acknowledged:

That being said, there is no doubt that asset prices are one of the mechanisms on which this is transmitted, so people that own stocks are going to do better than people that didn’t own stocks. But that’s not the only measurement, you need to look at the whole basket. The net effect is substantially weighted towards people that are borrowers not lenders, towards people that are unemployed versus people that are employed. Wealthy people are both employed and tend to lend. The people at the lower end of the distribution tend to borrow. So as a result, I think it’s very consistent with being worried about income inequality.

Fed officials undoubtedly spent some time debating whether to drop “considerable time” from the latest statement. Looking into the past, the fact is that all the major central banks have provided ultra-easy monetary policy for a considerable time ever since the financial crisis of 2008. Looking into the future, they may be forced to continue doing so for a considerable time. That includes the Fed, no matter how the FOMC statement is worded today.

In recent weeks, I’ve written about the possibility of “one and done.” In this scenario, the Fed votes to start raising the federal funds rate in mid-2015. That throws markets into turmoil, causing the FOMC to suspend further rate hikes until further notice. In this scenario, the Fed might get spooked by a true correction in the stock market more severe than this month’s quick dip. The dollar might resume soaring, sending commodity prices into a tail spin. Liquidity might dry up in the capital markets, particularly for high-yield corporate bonds. In other words, the past few weeks might have been just a warm-up act for what’s to come once the Fed starts “lift off.”

One explanation for the latest amazing relief rally in stocks is that investors are increasingly concluding that the Fed is trapped. There’s no way to exit its ultra-easing monetary policy without causing too much turmoil in global financial markets. In this scenario, the federal funds rate remains near zero for a very long time into the future. The 10-year Treasury yield remains below 3% for as far as the eye can see.

(Based on an excerpt from YRI Morning Briefing)