Global Market Signals Reject the Notion of 'Economic Boom'

It’s hard to believe it all started with just 12 bps. Yesterday marked the eleventh anniversary of the date at which the global monetary system broke. Eleven years. The primary reason it has remained this way for so long in such a reduced, dysfunctional state is this economic boom. Or, more precisely, how each and every time the deflationary pressure of that disorderly monetary system relents just enough for the global economy to slip out of downturn into a shallow upswing.

The economy appears to begin to recover only to suffer an “unexpected” setback. Once the “transitory” downswing itself dissipates, Economists are back to declaring an economic boom. Every time.

The process has repeated three full times so far and is right now apparently doing it again for a fourth. The worst part about all of it is not just the deeply troubling economic condition more than a decade without real economic growth (meaning more than an occasional 4% quarter here or there), rather it’s how we never really investigate what that condition might be.

In other words, every time there is a downturn and something goes awry, people start to suspect that all is not as good as it is claimed. That pushes the focus at least in the right direction, and even at times has pressured central bankers to start explaining themselves. Think 2015. Maybe the second half of 2018?

But then, just as urgency builds, it all shifts. The economy begins to improve which is declared without fail to be the end of “transitory” negative factors, the real recovery therefore to begin. With the pressure off, everybody stops asking the right questions. For a central banker, it’s comfortable CYA.

The word “transitory” is misplaced. The proper term is intermittent.

Five years ago, on the sixth anniversary of August 9, 2007, I used the occasion to write quite purposefully about the history of actual money and its relationship in and with India. What was happening in the summer of 2013 was a warning about taking QE3 and QE4 too seriously, not to mention Draghi’s 2012 promise over the euro and involving the ECB to some unknown degree, and then QQE in Japan.

Collectively, these were designed to leave no doubt. The gloves had finally come off, and the world’s central bankers were going to, pace Draghi, do whatever it took.

Despite all this, gold had crashed earlier in the year and by the middle of it many emerging markets had seen their currencies join the metal. These were hugely deflationary signals, but in the mainstream this was a “taper tantrum.” Central banks are always given a central place that they haven’t actually earned. Even when something goes wrong, it has to be because of some central bank.

In this case, it was presumed Ben Bernanke’s testimony before Congress in May 2013 triggered the upset. True to a lot of oral history, the Fed Chairman never actually said the word taper. Instead, he used the phrase “step down” in relation to the possible pace of purchases under QE’s 3 and 4. Doesn’t matter, gold had plunged months before he said anything.

India’s rupee was also under pressure long before Ben Bernanke’s 2013 excusing. The currency had been falling since July 2011 – right at the outset of the big crisis that year. It had stabilized between June 2012 and the end of April 2013, but before taper it began to plunge again.

Why India? The significance of INR is usually lost in the orthodox sense because what happens in rupees is treated as an Indian affair alone.  But August 9, 2007, proved that wasn’t true, as I revisited in August 2013:

“Implicit in that implicit liquidity promise was seamless money integration. The Federal Reserve only operates through its Open Market Desk at the Federal Reserve Bank of New York. The federal funds market is the only place the liquidity backstop actually applies - the eurodollar market is an entirely different structure and setup. But evolution in wholesale money and the accounting at Wall Street banks made the two markets operate flawlessly as if they were a single dollar system. There was uninterrupted operation for decades to provide the empirical basis for modeling such dollar liquidity confidence.

“That was an important step because of the dollar's role as reserve currency. An industrial business in Mumbai, India, that wishes to purchase copper from Australia better have US dollar financing (I suppose the Aussie miners would accept Australian dollars, but where would the Mumbai industrialist obtain them?). Given that there is very little foreign bank presence in India, that means Indian banks must have access to global dollar funding in order for Indian trade to occur.”

And if dollars, really fungible “dollars”, were suddenly hard to come by as they seemed to have been in July 2011, then Indian banks would have to “pay up” for the risks. That was May 2013, too, and it was a warning not about India’s economy but the state of the eurodollar world six years after the initial rupture. More than that, along with gold, it foretold of things getting worse at the very time when the world’s biggest central banks were collectively “all in.”

Of course, the alarm was dismissed given Bernanke’s convenient testimony. Things were in danger of being too good, a boom too much for even the most skeptical doves. That was the mainstream message sent into 2014.

When we arrived again at August 9 then on the seventh anniversary the tone was booming economy. The so-called best jobs market in decades was evidence of the “taper tantrum’s” utter meaninglessness. Ignoring the myriad warnings that had actually proliferated throughout late 2013 and early 2014, the US unemployment rate was all anyone needed in August 2014 to set economic expectations for 2015 and after.

This was the age of global growth, however. Europe rather inauspiciously was stumbling, as was China. You might think the former unrelated to any US boom, but it was hard to sell the issue where Chinese economic problems were not in some substantial way tied to the real US condition. Markets were turning negative all throughout 2014, but boy that unemployment rate just sizzled.

The theme for me for August 9, 2014, was the oft failure of Big Data. Central bankers and Economics were among the first purveyors of the concept. Econometrics is the very idea carried out in actual function, or attempted function. Monetary policies all around the world are driven by mathematical calculations.

Our experience in and after August 9, 2007, has shown these to be at best incomplete, at worst pure confirmation bias. The latter was the case in 2014:

“The defining variable, for the central banker, is supposed to be precision based on their ability to gather and analyze data, as if central planners can identify the ‘correct’ means of redistribution (theft) to create economic momentum. Yet, there are innumerable episodes that demonstrate, including those I have described, with total conclusivity no such precision exists. There is infinite wisdom in the dispersed nature of free market systems that confounds all attempts at harnessing it for the means of nothing more than total control.”

Despite an overflowing wealth of data and signals, time and again it usually comes down to nothing but tunnel vision. Having been unable to answer for 2008 and after, Economists really, really wanted it to be true this time. So, they focused on one piece of data as if, like in a Tolkien story, all others would obey and follow. The labor market estimates were held out as if the only possible interpretation of conditions.

Especially when you just flat out refuse to accept that markets are telling you what you really don’t want to hear. The yield curve was flattening all throughout 2014 as nominal rates fell at the long end. These were not signals for looming recovery but rising liquidity risk, the continuation of 2013 and India.

The cycle would only continue downward. The next year, the day following the eighth anniversary of August 9, there were real fireworks. The Chinese had stunned the world with massive “devaluation” that nobody could grasp. Was this export “stimulus?” Surely it was intentional, for how could it be otherwise?

“The list of central banks being rendered powerless in the face of ‘something’ is growing and is taking greater proportion (by weight of each central bank in that list) with each instance. Mainstream commentary continues to get this one backward, as the PBOC is not executing an ‘export stimulus’ or devaluation but rather has been forced into disruption by what increasingly looks like a localized ‘dollar’ run consistent with the same terminus as what broke the SNB and Banco (and the Central Bank of Russia, twice).”

Two plus years into the cycle, and now it was getting serious. The idea of global growth quietly disappeared in an official every-man-for-himself approach. Federal Reserve officials began telling some fuzzy parable of “overseas” turmoil. The US central bank was supposed to be acting on the unemployment rate but throughout 2015 and especially after that summer they instead refrained from any action at all due to circumstances not just unforeseen but plain unseen.

In later 2014, when US GDP had been better than 4% for two quarters in a row, it was conventional wisdom that the Federal Reserve would begin “raising rates” as early as March 2015 and do so in a path the same or at least similar to the one Greenspan took a decade before. Even in the middle of 2015, as the global “dollar” storm was raging, official estimates for the federal funds rate suggested the FOMC might get as high as 2.5% by the end of 2016, about ten 25 bps adjustments.

They did only two.

The year 2016 was totally confounding to policymakers, completing the cycle. They just could not fathom how markets were so against them everywhere. Credibility was smashed by seemingly everything going on especially early in the year. That was my theme for the ninth anniversary of August 9, 2007, recalling the original episode and how it was merely replaying all over again.

What specifically elicited Lacker's question was Dudley's prior attempt at an answer, ‘Well, another explanation is that the economists who make the dealer forecasts are not the traders who execute the Eurodollar futures positions.’ In other words, the FOMC was taking the side of the economists. This is disturbing on so many levels, to discount very good market information in favor of econometrics, and to do so in blanket fashion.

Early on in 2007, just like 2013 or 2014, officials wondered why market prices were suggesting something big ahead. None of their forecasts showed anything even slightly disturbing. Those prepared by the big banks said the same thing, nothing to worry about.

It is perhaps the most fundamental breakdown in the now eleven years of these repeating cycles. When the central bank wants to know what the big banks think, who does it ask for an opinion? This doesn’t seem like much of a question, but it is a public one, too. When some bank representative appears on whichever financial channel talking about what that bank thinks, who is it that delivers the position? Who actually determines it?

The answer is almost always an Economist. And they are almost always optimistic about anything and everything. You are left with the impression, as was Bill Dudley and the FOMC, that banks believed the public expression from top to bottom.

So, then, who is left out there in the nasty marketplace to be so bold as to refute the modeled projections of central bank Big Data? Excluding the banks on the basis of Economists, it must be none other than those evil speculators, the convenient targets of not just official anger but the very vessel officials use time and again to dismiss market signals as irrational emotion or something illogical of the like.

Markets in 2015 weren’t disagreeing with the unemployment rate, this thinking goes, they were skewed by the financial world’s version of online trolls and therefore could never be taken seriously.

But that just wasn’t true. Not on August 9, 2007, nor August 9, 2015. Or any of the others before and since.

As Dudley admitted months before, what bank Economists might say to them or to the public may not be what the bank is actually doing down in its trading operations. Thus, simultaneously, the bank Economist declares like every central banker how things are really good and going to become even better while inside that very bank traders may be furiously buying up protection against the grave liquidity risk they are actually facing, trading instead a very different, grim forecast if of an unofficial variety no one outside ever sees.

Like 2013 and 2014, the economy is “booming” again. Nothing to worry about, the recovery has finally arrived. Never mind in 2017 and 2018 India’s rupee, China’s yuan, the UST yield curve, eurodollar futures, FX collateral, copper, gold, China’s collapsed federal bond yield curve, etc.

Those are all just speculators.

Even if that was true, you would think officials would start paying attention to them anyway. Unlike econometric models, they have proven at least three times to actually be good at speculating about the presumption of boom.