Tags: yellen | fed | economy | invest

Negative Interest Rates Aren't the Solution

Negative Interest Rates Aren't the Solution

By    |   Wednesday, 10 February 2016 07:10 AM

Fed Chair Janet Yellen will be at Capitol Hill to deliver her semiannual Monetary Policy Report to the Congress. She faces a difficult time.

The New Hampshire Primary saw the things that thin the field of the candidates for the U.S. presidential election and Capitol Hill will likely to be in election hearing mode, which means there will be haunted questions, grandstanding and much focus on frankly irrelevant issues.

Nevertheless, one of the problems that literally everybody faces today is that the world has become more complex while that has taken place against the backdrop of failed-by economics where the intention plans of politicians, strategists and investors have diminished their ability to accept arguments that are more complicated.

So, Mrs. Yellen has a complex economy to explain. What many tend to overlook is that the real variables of the U.S. economy have held up better than the nominal variables.

Maybe it’s good to recall U.S. data have been subject to wild revisions as has been the case with the GDP growth estimates, which have been revised up in 17 of the past 23 quarters from their initial estimates.

We all know it’s complicated, but it’s a fact the U.S. labor market has experienced considerable structural changes, but also strength.

Inflation pressure is clearly rising again in the U.S., especially when we consider the core inflation rate, which excludes food and energy and that in December went up to 2.10 percent.

But this kind of news has been hidden under the headlines of the price of oil and its continuous oversupply news that continues “confusing” investors, which is fully understandable.

Many market observers haven’t still come to grip with the fact the way the U.S. economy works is changing and therefore coming up with investment ideas based on old relationships is not and will not go to work.

Fed Chair Yellen faces the challenge of trying to communicate all this to a group of politicians whose main interest is going to be scoring election hearing political points. She also has to communicate all of this while representing the views of a multi-faceted FOMC as she has to speak on behalf of the FOMC as a whole, while the FOMC as a whole does not have a single voice at this moment.

For the rest, I think she will likely, without being dismissive, downplay the ongoing hectic moves in the markets along with the risks of a more significant move down in the economy.

However, in my opinion at least that is contrarian to what the markets think, the Fed remains looking to raise rates sooner rather than later, and that impression may also need to be corrected.

We’ll see what happens and hope we all will get somewhat more clarity.

Coming back for a moment on the complexity that continues to grow in the economy and markets, nobody can pretend the contrary of the fact the wild moves we have seen in the markets so far this year are largely irrelevant to the real economy.

The economic data still are consistent with “Reasonable” levels of growth. At the same time direct ownership of equities is also high, but because of that it creates significant concerns about wealth effects for all investors. Meanwhile the cost of capital remains hardly a limiting factor for corporates, but when one focuses more specifically on the assets of the "financial system" companies, particularly banks then we see a potentially more troubling situation developing.

Now, and this is important, in case the banking system comes under stress as a result of being specifically targeted in the financial markets where their equity shares are tumbling and their credit default swaps are rising rapidly, this may constrain bank lending. And if bank lending gets more constrained, then a key prop to the economic growth story is challenged as we could see an ending of the delivering cycles in the U.S. and Europe.

Yes, we know inter-company credit can mitigate the effects of a weaker deleveraging cycle from the banks, but bank lending cannot be slowed down today, period.

And yes, this current situation raises an interesting question about central bank policy and in this context it could become very interesting to know what Mrs. Yellen will tell us about about the Fed's policy itself now the Fed has “tested” banks on the impact “negative interest rates” could have on them.

To me it’s rather simple knowing nothing is simple; negative interest rates are a tax on the banking system and then raising new taxes on banks at a time when market problems may be starting to imply constraints on the ability of banks to continue or even accelerate lending is setting the stage for a potentially problematic situation.

Raising taxes is not a logical form of a Central Bank’s easy monetary policy.

We'll see if we learn something today.

Etienne "Hans" Parisis is a bank economist who has advised global billionaires and governments on the financial markets and international investments. To read more of his articles, GO HERE NOW.

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We'll see if we learn something today.
yellen, fed, economy, invest
Wednesday, 10 February 2016 07:10 AM
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