The problem with opening your mouth is that at some point you have to put up or shut up. And sometimes you’re screwed either way.
Thus, we begin another episode in the never-ending saga of the Federal Reserve and the rocks and hard places it so often finds itself stuck betwixt. This week’s story co-stars the Bank of International Settlements, also known as the central bank to the world’s central bankers.
As our story begins, the comi-tragic figure of Janet Yellen — handed an impossible task by her predecessor, Benny “The Helicopter” Bernanke — has hinted to the world that, just maybe, U.S. interest rates will finally rise in December after nearly of decade of hugging the zero bound.
Of course, to add some drama, she and her central banking buddies inside the Fed have been at loggerheads over the real course of action at next week’s meeting.
Some of the bank governors on her team have been running around for months mouthing off to any group of villagers who will listen that the Fed must raise rates posthaste because of the (ephemeral) strength in the U.S. economy, proof of which was (supposedly but not really) demonstrated by a stronger-than-expected jobs market in America that has proven Olympian in its capacity to create crappy, low-income jobs.
At the same time, however, a flock of dovish bankers flitting around to other villagers sees plenty of reason to hold off on raising rates prematurely, for fear of the deleterious knock-on effects that are all but assured.
Meanwhile, lots of extras have been milling around — mainly simpletons playing the role of wizened economists, market strategists and media commentators — who have been taking dear Janet to task because she has held off on raising rates for so long. They see economic life only through the red, white and blue of patriotic lenses, too dimwitted to recognize the impacts that a rate increase here at home would have on other parts of the world.
And that’s where we pick up today’s storyline, The Uneasy Calm…
Tales From the Central Bank
Longtime viewers might recall the “Taper Tantrum” episode of summer 2013, when the monkeys playing the role of savvy investors and traders were absolutely sure that Fed was set to raise rates that August. Only, when the Fed disappointed, the monkeys fell into conniption fits and started throwing bananas all around their cage.
Well, the Bank of International Settlements, we’ll call him BIS, is now warning sweet Janet and her banker buddies that a much larger conniption fit might be in the offing if they do something as stupid as raising U.S. interest rates right now.
In the stilted language of bankers and their ilk, BIS told viewers that “the post-crisis era has been characterized by strong international spillovers from U.S. bond yields to emerging markets” and that “a simple rolling regression of an (emerging market economies) bond index on U.S. 10-year Treasury yields suggests that the potential for spillovers is larger now than it was during the taper tantrum.”
For those without the subtitles option activated, the BIS essentially told the American central banking posse that, if they pursue a rate hike, then they best be prepared for hellacious fallout globally that could rival previous crises such as the Asian currency crisis of the late ‘90s. The Fed could, BIS warned, launch a whole new story arc in which the Fed, through an unnecessary rate hike, accidently shoots the Global Economy in the head, and we all sit on the edge of our seats for months wondering if he will recover or live as an invalid.
The big problem, we learn, is that this new character, the Global Economy, has been openly accumulating lots of gambling debts. He has been wagering that U.S. interest rates would remain low for years and years to come, and has been borrowing to the hilt in cheap dollars. He’s so far out into deep water that his dollar-denominated debts now approach $10 trillion. And the big problem is his debts in Asia, where his addiction to greenbacks totals $3.3 trillion, double what it was in 2009.
Our banker with the stilted language, speaking indirectly but obviously at Yellen & Co., offers up another warning:
Weaker financial market conditions combined with an increased sensitivity to U.S. rates may heighten the risk of negative spillovers to EMEs when U.S. policy is normalized … further dollar appreciation and increasing yields may pose additional risks to growth and inflation in some countries.
The subtitles say: “Be scared, people. Be very, very scared! U.S. rate hikes could unleash a dollar rally that causes a global crisis emanating in the emerging markets, most specifically Asia.”
The Answer to Fed-Induced Chaos
The irony to this story line is that it is the one I’ve plotted out in Sovereign Investor for several months.
The synopsis: The Federal Reserve would be idiotic to listen to the hawks who think the U.S. economy is strong enough to handle a rate hike. It is not, given the manufacturing and earnings recessions we are now experiencing. Worse, the world is incapable of handling it.
Higher rates here at home will ricochet around the globe, undermining countries, companies and currencies. And that will come back to bite the J. Yellen right on her posterior because it will raise the value of the dollar even more, crush even more the profit margins of U.S. companies already losing sales local and internationally because of the strong dollar, and that will lead to layoffs here at home — sending the U.S. economy back into a funk that will take years to repair.
The question is: Will the Federal Reserve listen to BIS? Will the hawks quash the doves and force an unwise rate hike? Will the resulting impacts top the carnage we saw in 2013 Taper Tantrum?
Tune in next week, when our answers will begin to be addressed.
In the meantime, you might want to buy some gold. If BIS is right, the global disaster will not play well in global currencies. Gold could very well show up as the real hero of this show.
Until next time, stay Sovereign…
Jeff D. Opdyke
Editor, Profit Seeker