Disconnect? What Disconnect?

Over the past few weeks, the financial news media has been marveling at what it calls the “disconnect” between stock prices and the economy. Economic and health statistics are likely to go from bad – 30 million unemployed in the past month, a 4.8% drop in first-quarter GDP, an 8.7% drop in retail sales in April, more reported coronavirus cases and deaths – to worse – a nearly 40% drop in GDP and around 15% unemployment in the second quarter, according to the Congressional Budget Office’s latest projections. Yet the stock market has blissfully regained about half of the 34% drop it sustained between mid-February and mid-March.

But is there really a disconnect? Does the economy – now largely controlled by the Federal Reserve and the U.S. Treasury Department – still have any correlation to what happens in the stock market anymore, and vice versa? Well, the answer is yes, but not in the way it used to. What’s happening is that as the economy goes deeper into the red, the more it prompts the government to pump in more money and for the Fed to intervene more in the financial markets. That is unquestionably good for stocks.

We have been in an environment since the 2008 financial crisis where the Fed has played an unprecedented activist role in the bond market and, indirectly, the stock market. That role has grown further under Chair Jerome Powell, who seems to believe it’s the Fed’s job to rescue equity investors any time stock prices correct, never mind what’s going on in the economy. Now that we’re in the middle of an economic downturn that makes 2008 look like a garden-variety recession, the Fed has put its monetary policy and quantitative-easing engines into Continue reading "Disconnect? What Disconnect?"

This Time It's For Real

A little over a year ago, I wrote a column about Modern Monetary Theory. Don't look now, but it's no longer a theory, it's reality. Depending on how it eventually turns out, we'll find out if the economic cure to the coronavirus was worse than the disease.

In simple terms, MMT adherents believe that countries that issue and back their currencies, like the U.S., can print as much money as they need and still stay solvent. (Compare the eurozone, where the European Central Bank issues the currency, not the individual member countries). And without creating runaway inflation.

You can try this at home, too, you know, although it doesn't work nearly as well for individuals as it does for governments. Pay off one of your credit card balances with a balance transfer from another bank, then keep repeating the process. This will work for a while until the merry-go-round eventually stops when the banks stop lending you money, and you'll have to either pay everything you owe or wind up in bankruptcy court.

Of course, it's different for the government, which is one of MMT's main arguments, since it can just print more money when it runs out, which means the merry-go-round keeps going, even if investors stop buying Treasury bonds. If that happens, which it never has, the Federal Reserve, a separate but "independent" arm of the government, will pick up the slack.

Neat, huh? Continue reading "This Time It's For Real"

Socialism's Dry Run

Is it any wonder why many millennials gravitate toward socialism? As children, many of them watched their parents lose their homes after the 2008 financial crisis and real estate crash. Then they entered college and are now stuck with tens of thousands of dollars in student loans that prevent them from getting a car loan or a mortgage. Now they're in the middle of an even bigger global financial crisis, one that may leave 30% or more of the workforce unemployed, either temporarily or perhaps for several years.

Thankfully, the government and the Federal Reserve have stepped in with a mammoth rescue effort that will hopefully tide many people over until the economy rebounds. So that means for a period of time, either several months or perhaps years, the government will be keeping many people afloat. We'll get a feeling for what socialism will be like, meaning lots of people are not working and the government paying their bills. How long this state of affairs can last without some kind of societal impact is anybody's guess.

The immediate consensus when this crisis started was that the economy would rebound nicely in a "V-shaped" recovery in a couple of months, but that idea seems to have lost some of its steam. Now there's a growing belief that many parts of the economy will take a very long time to recover, and many industries, such as restaurants, air travel, sports and entertainment, and tourism, may return only as mere shadows of their former selves. How long will it really take for people to get comfortable again in large crowds in close proximity to others? Continue reading "Socialism's Dry Run"

Does The Fed Have Any Ammo Left?

So, far, the Fed has done an enormous amount of heavy lifting to try to keep the U.S. – and global – economy afloat during this unprecedented crisis, which – just so far – easily dwarfs the 2008 financial crisis in severity. As scary as things were back then, with many of the largest financial institutions in the world threatened with collapse, we didn’t have to worry about thousands of people dying as a result. This crisis is far worse, and we still haven’t the vaguest notion of how bad it still might get.

Let’s review all of the various Fed moves since the beginning of this month, then let’s talk about what else it might be able to do:

  • On March 3, the Fed held its first of what would be two emergency meetings this month, announcing a 50-basis point rate cut in its benchmark federal funds rate to a range of 1% to 1.25%. That move bombed.
  • It followed that up less than two weeks later on March 15 – a Sunday no less – with another 50 bp cut, to a range of 0.25% to zero. That also had little effect.
  • At the same time, the Fed said it would increase “over coming months” its holdings of Treasury securities by at least $500 billion and its holdings of mortgage-backed securities by at least $200 billion. However, by the end of last week, the Fed had already bought about $275 billion of those securities. As the Wall Street Journal pointed out, “this means the Fed will have bought more than half of the $500 billion in Treasury securities in one week with little sign of restored market functioning, pointing to a growing likelihood for a much more aggressive round of purchases.”
  • The Fed created a Money Market Mutual Fund Lending Facility that would make loans to banks secured by assets from money market funds, similar to what it did during the 2008 crisis, although this time, it would be purchasing a broader range of assets. On Friday, it extended the facility to include short-term debt issued by cities and states.
  • The Fed also said it was creating a new Primary Dealers Credit Facility that would provide major players in the government securities market with short-term loans.

As bold as all of these moves have been, have they actually done anything to restore public and investor confidence? Hardly. While the Fed has driven already low-interest rates back down to zero, it doesn’t mean very much when nobody wants to own any financial assets – whether it’s Treasury bonds or gold or anything else. Not blaming the Fed, but there’s only so much it can do when just about everyone is acting like the world is coming to an end.

But is there more it can do, either under its existing powers or some new Congressional mandate? Continue reading "Does The Fed Have Any Ammo Left?"

Will The Fed Buy Stocks Next?

Since he became Federal Reserve Chair two years ago, Jerome Powell has created a new mandate for the Fed above and beyond its “dual” Congressional mandate to “promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates” (that’s federal government math for you).

Powell has added putting a floor under stock prices, which usually has come to mean when the market reaches correction territory (i.e., prices fall by about 10%). When stocks reach that threshold, count on the Fed to cut interest rates or loosen monetary policy in order to restore order and investor confidence. So far in his tenure, the Powell Fed has been pretty successful in that regard. Even when overall economic conditions (GDP growth and unemployment) provide no justification for lowering rates, the Fed has stepped in to prop up the market.

Now, however, the current panic selling over the coronavirus has tested the Fed’s ability to wave its magic wand and restore peace to the market. As we know, the Fed’s recent decision to make an emergency 50 basis-point cut in the federal funds rate three weeks before its next scheduled meeting proved to be a dud. Investor confidence has now been so spooked by the uncertainty created by the virus that the rate cut caused barely a blip, and stock prices continued to tank.

Moreover, despite the market begging for the Fed to cut rates, Powell only opened himself up to criticism for actually delivering. The cut was either too small, some critics said, or a cut would have no effect in such a situation, so why bother doing it, others said. Yet the market consensus now seems to believe that another 50 basis-point cut is already baked in the cake when the Fed meets on March 17-18. But market anxiety being what it is, there’s no assurance that that will have any effect, either.

Already, many so-called experts are calling for some form of fiscal stimulus, as opposed to monetary stimulus, such as a Continue reading "Will The Fed Buy Stocks Next?"