It seems like an unnecessarily inefficient method, maybe even a total waste (pun intended) of time trying to discern what an animal eats solely by observing what comes out its back end. You might eventually witness something useful at some point, though I don’t want to get into those specifics or optics, but why not just go around to the front where the whole process starts?
Questions no one is taking seriously, though we all should.
Policymakers, Economists, the typical academics have grown pretty obsessed with the Treasury market these days. It all traces back, of course, to March 2020. On the 15th of that month, amidst complete chaos, the Federal Reserve brought out its big guns, open-ended and massive asset purchasing.
Along with some other odds and ends, the surprise (I suppose) Sunday night announcement was met with a thud, however. After some initial hope, the following morning even worse disorder and selling. Some might call it unbridled panic.
This cannot stand; the agency most have been led to associate with unique, unparalleled power and influence was thoroughly exposed as naked. Announcements, after all, have been the modern “central bank’s” true stock-in-trade.
Countless studies of QE, for instance, have been issued for want of more direct results. Forget “money printing”, they first all attacked financial channels if only to come up empty. That’s not what they say, of course, each conclusion is carefully worded to state substantial results that are, by any reasonable and honest standard, the very definition of immaterial.
Statistically significant insignificance.
One of them, a meta-grab from 2021 (Measuring the effects of federal reserve forward guidance and asset purchases on financial markets) showed the highly significant effect where a monster $600 billion of Fed UST purchases (more than what was done during 2010-11’s QE2) was calculated to have lowered the 10-US Treasury yield (as a proxy for others) by a thoroughly underwhelming 15 bps.
That same work mentions the results as one way into its real purpose; forget any direct influence of bond buying on the prices of the bond being bought, because there really isn’t any, instead there has been a slightly larger and still “significant” benefit on markets from forward guidance.
Announcements talking about future Fed purchases.
It is a theme which has gained so much popularity because of the paucity of any other kind of result. Economists all start from the premise that QE must do something, and then stick with it even after the lack of evidence disproves the idea so completely. And it’s not just because most of them work for or with the Fed and the others in this central bank cartel.
Nor does this falsification remain strictly about bond buying and QE. Go back to the original monetary crisis begun in 2007. The initial stage was met by…rate cuts. Seriously, the visible eruption of what shortly became the worst worldwide monetary panic in generations triggered “emergency” reductions in the Fed’s federal funds target which policymakers were thoroughly convinced was enough of a helpful signal to stave off anything bad.
In light of otherwise predictable and persisting funding strains, as they would later be called, policymakers then sought to recreate the Discount Window though without the requirement to list the names of any takers. Called the Term Auction Facility (TAF), it was exactly the same otherwise (as were the overseas dollar swaps with the only added feature being how they were, you know, overseas).
While the public wouldn’t find out for many years after, officials knew right away TAF was being hit up by mostly funny-sounding US banks with particularly German names and more than that, it didn’t work. The scheme couldn’t have, what with this initial round taking place in December 2007, several more which followed, major bank failures and near-failures all around the world in between, before finally a total financial and economic meltdown the likes of which no one had the misfortune to live through since the 1930s.
Not to be dissuaded by so much triviality, a trio of researchers at FRBNY in 2011 (Did the Fed’s Term Auction Facility Work?) pored over all the data they had – data us mere mortals can only dream of getting – if only to revise this interpretation of history to something more friendly to the status quo. TAF auctions did work, the authors declared, and the results they calculated were significant, statistically speaking.
“Our analysis shows that the Libor–OIS spread decreased on TAF event days (defined either as days when there was an announcement about the program, or days when there was a TAF auction or some other operation). We find that the average decrease in the Libor–OIS spread was about 2 basis points per TAF event.”
Did you catch that? TAF lowered the LIBOR-OIS spread by all of two, count them TWO basis points. Per event, though.
It is worth pointing out how the study period only covered December 2007 to April 2008 so as to isolate just TAF before other Fed programs came on line and ramped up. But the very fact those were even needed just proves this point even more.
So, what is the point with all these studies and such?
Ben Bernanke in early 2010 testifying to Congress for why he should be given a second term after the first one didn’t go so well:
“The Federal Reserve believes that these programs were effective in supporting the functioning of financial markets and in helping to promote a resumption of economic growth.”
The Chairman has the data to back it up, too. “Supporting the functioning of financial markets” and “helping to promote” an economy that suffered the worst shock since the Great Depression are lawyerly words purposefully placed into this testimony to obfuscate the truth.
He can say it helped, though he also never once states by just how much.
Notice, too, the wording and the real subject: “event days.” Those events weren’t the actual auctions, rather the days when any auctions or changes to TAF terms were announced.
These people do psychology, not money.
The last few decades begin to make a whole lot more sense once you realize what it really is they are up to.
What they are not up to was what came to be in short supply – and not for the second time – in March 2020. When policymakers gathered that special Sunday afternoon debating QE, they weren’t discussing the merits of buying bonds as much as they were talking through just how much their talking about doing anything would surely turn out to be “effective in supporting the functioning of financial markets.”
Even if only by a few bps.
Because it wasn’t, and so obviously wasn’t, this cottage industry afterward trying desperately to put some positive spin back into the forward as well as guidance. The Black Knight indeed must always triumph – or the whole thing falls apart.
One study from July 2021 written by a Federal Reserve Board staffer and published by the BIS suffices as an example.
“The Federal Reserve’s Treasury purchases during the COVID crisis thus appear to have had large effects on asset prices at the time of purchase, as opposed to on announcement dates as the prior literature has found (e.g. Krishnamurthy and Vissing-Jorgensen (2011)). Large purchase effects suggest that Treasury sellers had immediate liquidity needs. If liquidity needs do not change as a result of Fed purchase announcements, then asset prices may not change fully until the announced purchases are implemented, especially in situations where arbitrage capital is limited.”
Let me translate in case you don’t fedspeak: when financial participants are short of usable cash, the Fed talking about doing things actually does not help them.
While no surprise to you or I, this is a thunderclap among the pseudo-psychologists. And it still gets everything backward, or at the very least oversimplifies way too much that is important.
To partially summarize March 2020: foreign reserve managers in countries faced with massive dollar shortfalls (China, Brazil, and Saudi Arabia were singled-out in this study for good reasons) liquidated Treasuries by force-feeding them to reluctant dealers who bought them but were unable to secure repo funding to finance the purchases causing rejected sales along with more panicked liquidations.
As I’ve written too many times before, this isn’t a Treasury market problem meaning even thinking about bailing out the Treasury market with bond purchases can’t actually be a solution. It’s staring directly into a rectum hoping to fix whatever's diet from the back.
There were more complications beyond those overseas, too. Briefly again, investment funds which had been huge buyers of USTs because of a peculiar and persistent basis trade were forced out of it, meaning forced also to liquidate their USTs.
Why? The authors claim it was the basis trade itself (“…futures becoming even more expensive relative to cash Treasuries than before the COVID crisis,”) when more evidence and plain common sense shows it was again repo (which was and is the funding mechanism for the key long leg of the arbitrage).
That’s not all, either. As investment funds and “households” (the term gets quotation marks because in the data households doesn’t mean actual households, it is the remainder after all the other categories of investors and holders are figured from the total) liquidated out of USTs, much of that rotation moved into MMFs which cannot buy any but Treasury bills meaning they could not absorb the note and bond sales even as they became highly cash rich.
What MMFs could have done, along with bill purchases, was relend cash in repo, but that didn’t happen, either, for reasons of collateral. MMFs might have (they did) refrained from repo-ing based on off-the-run USTs – those being sold the most – because of the price effects and lack of liquidity for especially those instruments.
You can’t blame the Treasury market for not being able to absorb so many sales of securities where no current market for them existed or exists today. The problem wasn’t nor isn’t Treasuries, that’s looking at it backwards, the actual problem is what triggers the selling from the very beginning.
Unlike 2008 when Bernanke and his ilk were able to successfully finger the toxic waste of risky subprime mortgages for being the primary culprit, which at least made sense to the uninformed public and its politicians. Jay Powell can’t really do that here because he’d be saying US Treasuries were being heavily sold because they were garbage. Ironically, better not to talk about it at all.
As in 2008, especially the worst parts, selling is a direct consequence of sudden, acute monetary inelasticity. Old fashioned stuff if in modern, virtual formats. The very thing the Federal Reserve is supposed to do.
And just what it tells everyone it does, spinning a story about managing the nation’s money simply, easily, quickly with the use of one of its numerous tools held in its kit. Even if you believe authorities had successfully rescued the Treasury market in 2020, even getting to that whole “rescue” was several orders of magnitude more complicated than it might seem.
After this week’s CPI, markets are even more convinced that “something” soon is going to turn rate hikes into rate cuts. Not that either matter, they never have nor will, but it is no comfort if the coming storm which is responsible for the U-turn turns into another hurricane.
The Fed provides no shelter, no real shelter. The two, fifteen, or however many leftover bps plunked into every academic study are great for making public announcements about statistically significant insignificance, yet they do absolutely nothing for real liquidity needs.
Keep this in mind as the situation continues developing along these same lines. Market participants already do, especially with all the same global names popping up again, which is why the hedging has already gone beyond 2007-style. No need to wait for the feces to come flying out into the fan to confirm the steady bad diet we’ve all been…Fed.
