What does Dow Jones Industrial Average at 14,000 mean? Not much, when you consider that it's to a large degree the product of the Fed's unremitting money printing policy. A "value" achieved through government policies, rather than market forces, has little intrinsic value. Witness the real estate markets of 2007-08: decades of government subsidies through the mortgage markets, tax laws and Federal Reserve monetary laxity puffed up home values until they exploded in our faces. Comparable subsidies (like quantitative easing) and more easy Fed money can do the same to financial assets.
Right now, retail money has started flowing into stocks again. That's deemed by many market pros to be a sign of an impending market peak. If you want to get in and out of the market--i.e., trade it as if it were an asset bubble--there may be some greater fools who would buy from you. That is, if you act quickly enough. But investor, beware. The Fed is making an enormous bet right now: that enough monetary stimulus will somehow revive the economy to the point that it will independently resume sustained growth and return to full employment. That such will occur is unusually uncertain. Aside from the fact that economic revival has been painfully slow even with all the printed money, one has the sneaking suspicion that the Fed has quietly placed a side bet that its easy money policy would push down the value of the dollar enough that America might export its way to prosperity. But other export-centric nations are fighting back. Japan has effectively undermined the independence of its central bank in order to push the yen down. China has stopped levitating the renminbi. And the Germans are starting to grouse audibly about the revival of the Euro. Currency wars tend to take on the look and feel of a circular firing squad, and the major economies of the world are charging their muskets.
Showing posts with label Japanese yen. Show all posts
Showing posts with label Japanese yen. Show all posts
Wednesday, February 6, 2013
Monday, August 13, 2012
How the Federal Reserve Discourages Consumer Demand
The Fed has, for the past four years, waged a relentless war on interest rates, suppressing them to zero at the short end of the yield curve and to record lows at the long end. This was all done in the hope of encouraging lending and fostering consumer demand. With about 70% of the U.S. economy coming from consumption, there is good reason to try to encourage consumers. But the Fed's basic approach has been to tilt the playing field sharply toward borrowers and punish savers for having the temerity to be frugal, all with questionable impact on consumer demand.
The boost given to borrowers appears to be limited. Interest rates on credit cards have, if anything, been rising. This is in part due to changes in the law that have limited some of the fees with which banks previously whacked their customers. But the sharp drop in short term rates since 2008 has not been mirrored in the credit card market. With recent credit card rate increases, borrowers have the incentive to reduce balances, not boost spending.
In the mortgage markets, rates are reaching all time lows. But only a limited segment of mortgage borrowers are able to qualify for refinancing (and a lot that can refi have already done so). The people who need help the most (i.e., those underwater on their mortgages) find refinancing a tough slog, if possible at all.
In the business world, rates may or may not be dropping, depending on the creditworthiness of the borrower. Business people tend to be cautious right now, with all the headwinds from slowing economies in America and Asia, recession in Europe, the unsolvable Euro crisis, and near complete political dysfunction in Washington. Drops in interest rates aren't likely to greatly affect their view toward business borrowing, investment or hiring. That's evident from the fact that businesses are choosing to hold billions of dollars in cash for essentially no return rather than invest or hire. If you're not deploying your own cash to invest or hire, why would you borrow even at a low interest rate to invest or hire?
But the impact of low interest rates on savers is significant. Let's hypothetically take a relatively frugal American who is approaching or in retirement, and in 2006 had $750,000 in a diversified portfolio. During the financial crisis of 2007-08, this portfolio, we'll assume, was pummeled down to $500,000. Many investors victimized in this fashion have fled equities and put their reduced savings into fixed income investments. For the sake of simplicity, let's assume the Fed's war on interest rates kept the yield curve 1% below where it might have been with a somewhat more balanced approach by the Fed. (Thus, at the low end, the Fed would today be targeting a fed funds rate of 1 to 1.25% instead of today's 0 to 0.25%.) The interest lost by our hypothetical saver would be $5,000 a year. Compounded over 4 years, the saver would have lost about $20,302 before taxes. While this amount after taxes wouldn't buy a yacht, and only a modest car, consumption would probably be noticeably boosted if millions of Americans had enough additional money to buy a modest car.
Given that the Fed has promised to keep interest rates ultra low until late 2014, the lost income will reach approximately $30,760 per hypothetical saver in a couple of years. And this amount could increase if the Fed extends that promise into 2015 (a serious possibility).
It's important to keep in mind that these income losses are permanent. There is no way savers can recoup these losses. The Fed won't boost interest rates extra high later on in order to bail out the frugal. So savers' consumption will be permanently reduced.
The Fed claims to be greatly concerned with consumer expectations and their general state of mind, believing that public confidence is crucial to restoring demand and prosperity. The message sent by the Fed's long and continuing war on interest rates is that things are bad and will be bad for a long time. Any rational consumer, particularly those that are frugal to begin with, will hunker down, dig the fox hole even deeper, cover it with a sturdy layer of thick logs, camouflage it with an abundance of branches and brush, and never even dare to peek out.
The situation in Japan is illuminating. The Japanese central bank has, since its own financial crisis in 1989-90, banished positive interest rates from the land (encouraging the so-called carry trade, where Japanese citizens deploy their savings or borrowed yen into investments in foreign currencies that offer positive returns; thus Japan's capital is productively used in other nations). Japanese consumers have gone from being luxury hounds to penny pinchers and bargain hunters. Japan has been stagnant for more than two decades, and its most recent economic statistics show that the stagnation has become a seemingly permanent and undesired house guest. America appears to be headed down the same path. Although the headlines generated by politicians and candidates for political office promise solutions, hard evidence to be optimistic remains scarce. Even the tech sector, America's economic sweetheart, has offered a lot of disappointment lately, with Facebook's stock losing almost half its IPO valuation and other familiar tech companies serving up results akin to the financial equivalent of Spam quiche. Will America become Japan? This is no longer the question. The question now is how will America stop being like Japan.
The boost given to borrowers appears to be limited. Interest rates on credit cards have, if anything, been rising. This is in part due to changes in the law that have limited some of the fees with which banks previously whacked their customers. But the sharp drop in short term rates since 2008 has not been mirrored in the credit card market. With recent credit card rate increases, borrowers have the incentive to reduce balances, not boost spending.
In the mortgage markets, rates are reaching all time lows. But only a limited segment of mortgage borrowers are able to qualify for refinancing (and a lot that can refi have already done so). The people who need help the most (i.e., those underwater on their mortgages) find refinancing a tough slog, if possible at all.
In the business world, rates may or may not be dropping, depending on the creditworthiness of the borrower. Business people tend to be cautious right now, with all the headwinds from slowing economies in America and Asia, recession in Europe, the unsolvable Euro crisis, and near complete political dysfunction in Washington. Drops in interest rates aren't likely to greatly affect their view toward business borrowing, investment or hiring. That's evident from the fact that businesses are choosing to hold billions of dollars in cash for essentially no return rather than invest or hire. If you're not deploying your own cash to invest or hire, why would you borrow even at a low interest rate to invest or hire?
But the impact of low interest rates on savers is significant. Let's hypothetically take a relatively frugal American who is approaching or in retirement, and in 2006 had $750,000 in a diversified portfolio. During the financial crisis of 2007-08, this portfolio, we'll assume, was pummeled down to $500,000. Many investors victimized in this fashion have fled equities and put their reduced savings into fixed income investments. For the sake of simplicity, let's assume the Fed's war on interest rates kept the yield curve 1% below where it might have been with a somewhat more balanced approach by the Fed. (Thus, at the low end, the Fed would today be targeting a fed funds rate of 1 to 1.25% instead of today's 0 to 0.25%.) The interest lost by our hypothetical saver would be $5,000 a year. Compounded over 4 years, the saver would have lost about $20,302 before taxes. While this amount after taxes wouldn't buy a yacht, and only a modest car, consumption would probably be noticeably boosted if millions of Americans had enough additional money to buy a modest car.
Given that the Fed has promised to keep interest rates ultra low until late 2014, the lost income will reach approximately $30,760 per hypothetical saver in a couple of years. And this amount could increase if the Fed extends that promise into 2015 (a serious possibility).
It's important to keep in mind that these income losses are permanent. There is no way savers can recoup these losses. The Fed won't boost interest rates extra high later on in order to bail out the frugal. So savers' consumption will be permanently reduced.
The Fed claims to be greatly concerned with consumer expectations and their general state of mind, believing that public confidence is crucial to restoring demand and prosperity. The message sent by the Fed's long and continuing war on interest rates is that things are bad and will be bad for a long time. Any rational consumer, particularly those that are frugal to begin with, will hunker down, dig the fox hole even deeper, cover it with a sturdy layer of thick logs, camouflage it with an abundance of branches and brush, and never even dare to peek out.
The situation in Japan is illuminating. The Japanese central bank has, since its own financial crisis in 1989-90, banished positive interest rates from the land (encouraging the so-called carry trade, where Japanese citizens deploy their savings or borrowed yen into investments in foreign currencies that offer positive returns; thus Japan's capital is productively used in other nations). Japanese consumers have gone from being luxury hounds to penny pinchers and bargain hunters. Japan has been stagnant for more than two decades, and its most recent economic statistics show that the stagnation has become a seemingly permanent and undesired house guest. America appears to be headed down the same path. Although the headlines generated by politicians and candidates for political office promise solutions, hard evidence to be optimistic remains scarce. Even the tech sector, America's economic sweetheart, has offered a lot of disappointment lately, with Facebook's stock losing almost half its IPO valuation and other familiar tech companies serving up results akin to the financial equivalent of Spam quiche. Will America become Japan? This is no longer the question. The question now is how will America stop being like Japan.
Tuesday, September 14, 2010
Japan's Yen Intervention: A Trade Skirmish?
The Japanese central bank has unilaterally stepped into the currency markets and bought U.S. dollars in an effort to lower the value of the yen and push up the dollar. It appears to have increased the dollar by about 1%. In economic terms, this intervention is similar to a 1% across-the-board tariff on all U.S. goods imported into Japan. Conversely, it creates a 1% price cut on all Japanese goods imported into the U.S.
While American consumers wouldn't mind a 1% price cut, this intervention could export some of Japan's unemployment to the U.S. American workers making products that compete with now cheaper Japanese goods may face a greater risk of layoffs and reduced income.
The Japanese government apparently had hoped for international support for its intervention. It got none. Everyone's hurting and no one wants to take someone else's unemployment.
There was no public reaction from the U.S. government to the Japanese intervention. A 1% shift in currency valuations is small from a medium to long term perspective, and could easily shift back within a few days from now in today's volatile currency markets. The U.S Treasury has its hands full squabbling with the Chinese about the valuation of the yuan, and probably doesn't want to fight on two fronts simultaneously.
The yen is rising because it's becoming more valuable. One reason is that the Chinese government has been buying yen denominated assets in order to diversify away from the dollar. The Chinese are killing two birds because this diversification is also likely to weaken the dollar. Because the Chinese yuan is still essentially tied to the dollar, when the dollar sinks, so does the yuan. The Chinese tack allows them to maintain approximate parity with the dollar while gaining a trade advantage over the Japanese.
By intervening, the Japanese central bank is in effect riposting with a two birds with one stone tactic of its own. Pushing the dollar up also pushes up the yuan against the yen, thereby recovering some of the trade advantage the Chinese have gotten lately.
Next week, the Federal Reserve will meet again and perhaps give more guidance on the extent of the quantitative easing (read, printing of money) it has in mind for the foreseeable future. The more the Fed quantitatively eases, the lower the dollar will fall in the currency markets. The Japanese may perceive this as aimed at them, even though it isn't. They might respond with more intervention.
With economies around the world slowing and governments too leveraged for much more stimulus spending, currency manipulations are a deceptively cheap and easy way to improve a nation's prospects. The problem is that one nation's gains come at the expense of other nations. When they all start to maneuver their currencies around, they wittingly or unwittingly form a circular firing squad aiming inward. Things weren't pretty when that happened in the 1930s and they wouldn't be pretty if it happened again.
While American consumers wouldn't mind a 1% price cut, this intervention could export some of Japan's unemployment to the U.S. American workers making products that compete with now cheaper Japanese goods may face a greater risk of layoffs and reduced income.
The Japanese government apparently had hoped for international support for its intervention. It got none. Everyone's hurting and no one wants to take someone else's unemployment.
There was no public reaction from the U.S. government to the Japanese intervention. A 1% shift in currency valuations is small from a medium to long term perspective, and could easily shift back within a few days from now in today's volatile currency markets. The U.S Treasury has its hands full squabbling with the Chinese about the valuation of the yuan, and probably doesn't want to fight on two fronts simultaneously.
The yen is rising because it's becoming more valuable. One reason is that the Chinese government has been buying yen denominated assets in order to diversify away from the dollar. The Chinese are killing two birds because this diversification is also likely to weaken the dollar. Because the Chinese yuan is still essentially tied to the dollar, when the dollar sinks, so does the yuan. The Chinese tack allows them to maintain approximate parity with the dollar while gaining a trade advantage over the Japanese.
By intervening, the Japanese central bank is in effect riposting with a two birds with one stone tactic of its own. Pushing the dollar up also pushes up the yuan against the yen, thereby recovering some of the trade advantage the Chinese have gotten lately.
Next week, the Federal Reserve will meet again and perhaps give more guidance on the extent of the quantitative easing (read, printing of money) it has in mind for the foreseeable future. The more the Fed quantitatively eases, the lower the dollar will fall in the currency markets. The Japanese may perceive this as aimed at them, even though it isn't. They might respond with more intervention.
With economies around the world slowing and governments too leveraged for much more stimulus spending, currency manipulations are a deceptively cheap and easy way to improve a nation's prospects. The problem is that one nation's gains come at the expense of other nations. When they all start to maneuver their currencies around, they wittingly or unwittingly form a circular firing squad aiming inward. Things weren't pretty when that happened in the 1930s and they wouldn't be pretty if it happened again.
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