The Central Bank Dilemma

Armstrong Economics Blog/Interest Rates Re-Posted Dec 14, 2022 by Martin Armstrongpread the love

The Central Bank Dilemma has become a major crisis in and of itself. I have been warning these past years that the ONLY tool a central bank has is manipulating the interest rates. Quantitative Easing was primarily to influence long-term rates indirectly since the Fed can only set short-term rates. During the past nine months, Fed Chairman Jerome Powell has raised interest rates at the fastest pace of any Federal Reserve chair since the 1980s. While some complain that this has triggered a stock market rout, and caused the housing market to come to a standstill, others argue that he has increased the fears of an imminent recession.

That was the domestic part. The Fed’s raising of interest rates has impacted the emerging markets including contributing to the chaos in the financial markets in China since many banks and provinces borrowed in dollars to save interest rates – or so they thought. It has forced the European Central Bank to raise interest rates and the net result was to unleash a crisis in long-term debt where life companies and pension funds cannot continue to buy the long-term with rates rising and bonds declining the day after you just bought a traunch.

Janet Yellen, who wants to hunt down everyone who sold a used bike on eBay for $600, understands the crisis we have erupting in debt because of rising interest rates and investors are afraid of the long end. Her proposal to buy in the long-term and swap it for the short-term recognizes the fact that we have a major debt crisis unfolding and she has come up with another scheme to keep kicking the can down the road.

Consequently, with inflation hitting 40-year highs, the warning signs are there that the central banks cannot do anything to address the economic crisis. Hence, initially, Fed officials were unanimous that rates needed to rise aggressively. Now, however, there are cracks in that view. These cracks will become fissures over how this type of inflation is NOT speculative but shortages set in motion by COVID and then accelerated by this drive for war with Russia and the insane sanctions they imposed on even private citizens.

While some expect inflation to cool steadily next year and want to stop raising rates soon, the problem is that inflation driven by shortages will not subside with a reduction in demand. Even real estate replacement costs have risen despite the fact that the market has started to pause. The cost to build a home in many areas is already higher than existing homes, which tends to create a floor before prices. Others worry inflation won’t ease enough next year in the face of a war that is escalating, and they defer to the old standard of raising interest rates to temper inflation.

That leaves Chairman Powell struggling in the eternal seas of politics lost in the middle as the arguments get louder on both sides. Powell will be challenged trying to chart a course through war, stagflations, and complete fiscal mismanagement by our politicians. The next stage of interest-rate policy presents very difficult questions concerning how high to raise rates from here, and how long to hold them at that level in this Pyhric War against Inflation.

$80 Trillion Derivatives Market

Armstrong Economics Blog/Banking Crisis Re-Posted Dec 6, 2022 by Martin Armstrong

The Bank of International Settlements (BIS) has warned in its latest quarterly report that there is $80 trillion dollar in off-balance sheet dollar debt in the form of FX swaps. This has involved pension funds and other ‘non-bank’ financial firms.

What they do not explain is that each “debt” has a counterparty that has an “asset” and in theory, that works out to net zero. But there is counter-party risk that is not discussed. This doesn’t address the liquidity issue either. Still, it is not entirely a black hole as they seem to lead some to proclaim. What is also left unexplained or addressed is the question of if they are netting across all transactions. Many of the players in this market have offsetting positions. It is one thing to scream OMG the size of the stock market is too big, and another to yell fire in a crowded theater.

This $80 trill is effectively the derivatives market. It is what it is. Marking everything to market all the time isn’t a great answer either for there can be imbalances for a day or two in the middle of chaos. What is clear is that the BIS is raising concerns, in which it also said this year’s market upheaval took place without any major issues.

On the other hand, the BIS has been pushing central banks to raise rates to fight inflation which will only accelerate the crisis since it is shortage based. This is no different from the ’70s when there was an external price shock from OPEC,. Raising interest rates did nothing to prevent inflation, instead, it resulted in a strong dollar, the collapse of the pound to $1.03 in 1985, and the US national debt more than doubled on interest expenditures.

Nonetheless, the BIS has been quieter on the inflation front this time around. Just maybe, they are starting to realize that the old theories no longer work. The September UK government bond market turmoil was created by raising interest rates and the losses on holding long-term debt in the face of rising interest rates have been just the tip of the iceberg.

The FX swap markets have become huge. Our clients are well into the trillions these days whereas twenty years ago we had less than 5 clients at the $1 trillion threshold.

Nonetheless, the complexity of the cross-positions is the real risk. One side can blow out because of the chaos these braindead politicians are creating with this war against Russia.

Meloni Set to Abolish Italy’s Welfare State

Armstrong Economics Blog/Italy Re-Posted Nov 25, 2022 by Martin Armstrong

Italy’s new PM Giorgia Meloni revealed her first economic initiatives with a budget of 21 billion euros. The Italian government will no longer provide free handouts to those who simply refuse to work. This should not be controversial.

For starters, anyone eligible for welfare must actually reside in Italy. Those capable of working will have eight months to find employment before their free paycheck runs out. Alternatively, if someone refuses a job, they will be excluded from receiving welfare. The 5-Star’s citizens’ wage will be abolished by next year as the system has been abused by many who simply do not want to work. They are reviewing the pension system as well, but it’s too late to save the pension funds.

Italy’s first female PM is also encouraging couples to start families amid a birth rate crisis. Women may take a sixth month of maternity leave and still receive 80% of their salary. Meloni cut taxes on goods for newborns and feminine hygiene. Couples will receive a 50% increase in the “baby bonus,” and families with over three children will receive more incentives. Italy needs future taxpayers.

Everyone cheered when America appointed its first female vice president, but Kamala Harris has done nothing for women who still pay the pink tax and do not have access to maternity leave. It is astonishing how controversial this move has become with the papers calling Meloni a Fascist dictator for preventing working taxpayers from paying for those unemployed by choice.

Interest Rates Rise will Not be Slow

Armstrong Economics Blog/Interest Rates Re-Posted Nov 13, 2022 by Martin Armstrong

This interview with FXStreet is from 2015. Some are surprised at the consecutive rate hikes, but our models have been indicating for a very long time that rates would rise rapidly. There would be no soft landing. Central banks maintained artificially low rates for far too long and were backed into a corner. They created a problem long ago, and it will cause pain for “some time,” as Powell usually states, for the situation to be under control.

Matteo Renzi Defends Rival Giorgia Meloni

Armstrong Economics Blog/Italy Re-Posted Sep 30, 2022 by Martin Armstrong

The media is clearly in the wrong when politicians from the other end of the spectrum are coming out to condemn fake news. Former Italian PM Matteo Renzi (2014 to 2016) is putting his political views aside and defending newly-appointed PM Giorgia Meloni. Countless articles have compared her to Benito Mussolini, claiming she would bring fascism back to Italy. Renzi said that this is fake news.

Renzi took to CNN, a platform that immediately compared Meloni to the deceased fascist dictator, and defended her character. Renzi admitted that Meloni is his rival and that they will continue to fight in the political realm. “There is not a danger for Italian democracy,” Renzi said on CNN. “She’s my rival, I’m her rival, we will continue to fight each other, but the idea now that there is a risk of fascism in Italy is absolutely fake news.”

Renzi said that Italy has not changed its position on Russia and that NATO should not worry about any problems from Italy. Does the media recall what the Italians did to Mussolini in the end? They hung him and his mistress in the streets and brutalized their corpses. Italians certainly do not want a repeat of Mussolini’s fascist reign, nor do they want to give the government more control. They also do not want to give the EU control or abandon Italian culture for a melting pot of European values set forth by Brussels. Renzi is more in favor of the EU than Meloni but admits she is a sovereigntist, which is precisely why she is the new prime minister.