[Right: the Fed "jawbones" Main Street (dramatization)]
The Fed announced on the New Year’s Holiday that it is going to start releasing its internal forecasts of short-term interest rates.
Advocates of Fed transparency (I am one) might reflexively welcome this prospect.
However, even the New York Times article (sourced above) is not so naive. At least, this was apparent when it was originally published, as it said in this version of the article (apparently the copy at that location didn’t get changed — try again, guys!):
In January 2012 the Fed board adopted a plan to publish a forecast of its own actions, inaugurating a policy that is intended to magnify the power of those actions by shaping market expectations.
The article even opens with a comment about the Fed asserting its power to influence the economy through manipulating interest rates and engaging in quantitative easing (asset purchases). Oddly enough, the replacement version of the same article only uses the word “power” to suggest the Fed is powerless… “to address the most important issues weighing on growth, including a lack of demand from gloomy consumers, high levels of debt throughout the economy and the depressed condition of the housing market”.
Poor, poor Federal Reserve. They do try so hard, but they are as helpless as the rest of us! Uh huh.
What the original wording does is accurately reveal the Fed’s immense power of intervention on the bond market and everything connected to it, and accurately point out that increasing its advance reports of interest rates is likely to only magnify that power.
In fact, the phraseology “publishing a forecast of its own actions” (also absent from the updated, propagandized article) really puts it best. It stands to reason that since the Fed is now setting short-term interest rates by fiat, completely controlling the market, all they are “forecasting” is their own eventual actions, not some “free” evolution of market conditions.
Adam Estes at The Atlantic caught on to the original article, and directed me to the NYTimes’ “suspicious” change.
He was also quite critical, but I don’t think even he took the point as far as it needs to go.
The Fed isn’t openly “asking for more power” (like it did when it requested — and received — the new Consumer Financial Protection Bureau); it is asserting even more, under the subterfuge of “transparency”.
What we are talking about here is jawboning — attempting to influence the market by shaping future expectations (especially those of market insiders) with rhetoric and “data.”
This has been a Fed pet peeve of mine for a long time: any time the Fed volunteers more “transparency”, you can be sure that it isn’t doing it to be more accountable, it is attempting to amplify its jawboning facilities to get more effect out of its various manipulations.
This in itself might not seem so bad — after all, isn’t it good for the Fed to achieve more of a result out of bluster rather than through actually intervening (i.e. printing more)?
I think it is evident that this is not the case.
Conceptually, any market influence that is based simply on perceptions is unlikely to be “durable”. Markets always correct to real-world conditions.
But that’s not the main problem with the Fed’s dissembling.
The real problem is that the Fed has, through its vast statutory influence combined with this new policy of jawboning, transformed the market from a “normal” state of bond income-seeking to a speculative state of bond asset trading. And as is painfully evident today, the last thing we need is more speculative trading.
I noticed this transition years ago, when investigating the launch of a credit bubble around 1995, which ultimately became known as the dot-com bubble. But that was only its stock market manifestation — bonds (especially Treasuries) also have rallied more or less continuously since around that time.
Furthermore, it was clear that in 1994/1995, the trading action of Treasuries changed completely. Rather than rallying when the Fed Funds Rate (the Fed’s main policy interest rate) was increased, they started to decrease when rates were rising. Conversely, when the Fed was lowering interest rates, Treasuries would rally, instead of falling, as they used to:
(The chart is a few years old, so only goes up to 2006, but the point is made)
The distinction between investing for income versus for trading profits stands out here: rising interest rates increase the attractiveness of bonds to long-term investors (i.e. Main Street) — especially “risk-free” bonds like Treasuries. But it’s falling rates that interests Wall Street (and other traders around the world), because a falling rate means the bonds you currently hold are worth more if you sell them.
Main Street investors don’t run around selling bonds before maturity very often, so this behavior is of little concern to them. But for Wall Street, it’s a trading bonanza.
Sure enough, around 1995, when Greenspan increased the so-called “transparency” of the Fed by releasing minutes of the Fed’s governing board’s regular meetings, this change took place. And that’s when the traders took over the bond market — attached to a leash that led straight back to the Fed.
Now we can understand why the Fed doesn’t give a hoot about the fact that, thanks to its own policies, short-term bonds are close to zero, and long-term Treasuries yield less than inflation, strangling Main Street. Simply put, the Fed isn’t there to bail out Main Street: priority #1 is bailing out Wall Street, which means traders.
The effects of the Fed’s pro-Wall Street jawboning are even more pronounced when you consider that it conducts its interest rate-setting policy through purchases and sales not to the general market, but to a closed cartel of “primary dealers”. These primary dealers are ensured a profit on these operations (in effect, a subsidy – see here for a specific example), and almost certainly receive other very valuable forms of back-scratching from the Fed (e.g., Goldman Sachs getting bailed out 100% on the dollar through AIG in 2008, worth $13 billion, courtesy of Tim Geithner’s New York Fed).
These cartel banks are best-positioned to profit off the Fed’s fake “transparency.” They know that the Fed’s so-called “predictions” are actually advance policy statements, and dutifully “front-run” the Treasury market. With recent revelations of back-channel communications between Treasury officials and Wall Street players in advance of major bailout decisions, as well as the existence of the totally closed-door Working Group on Capital Markets and the Exchange Stabilization Fund, it is almost certain that they have advance information of these “predictions” even before the Fed has released them. Basically, it just gives them another thing to front-run.
Further proving that this is all a sham, it is an open secret that the Fed’s prognostication track record is abysmal (here’s an entire book on it). If I were the Fed, I certainly would not want to make my internal predictions MORE public in light of this — unless the purpose is not actually to allow the public to “check up on my work,” but to better manipulate the market and do favors for my insider friends.
Finally, we can observe that if the Fed did truly want more transparency, it wouldn’t have resisted genuine efforts by the public to demand it, such as in -
(1) Bloomberg News’ request for information on the bailouts;
(2) Fox News’ request for information on the bailouts;
(3) Ron Paul’s request for general authority for Congress to do full audits of the Fed (along with Bernie Sanders and other Fed critics in Congress — which resulted instead in a more limited, one-time audit; yet even that was quite illuminating).
Remember all this the next time the Fed volunteers that it is going to be “more transparent.” It’s for your own good, of course.