Another Go

Frederick J. Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession  (McGraw-Hill, 2009) and "The Coming Collapse of the Municipal Bond Market" (Aucontrarian.com, 2009)

Advocates for Federal Reserve disclosure harp on the five-year wait for FOMC transcripts. The reasoning goes that institutions in a democracy should be more democratic: let the people know what the Fed plots behind closed doors. The question arises: to what end?

            The 2008 transcripts were released in late-February. Most media operations published stories about the Fed's absent-minded professors who missed the importance of failing financial institutions during 2008. This was not news. That has been described over the past five years, among other places, in Panderer to Power. The release, however, was an opportunity to remind investors, retirees, florists, and students receiving government financing of their precarious state.

Now, the story of the 2008 transcripts has died, without much in the way of help to the bewildered. Granted, bewilderment is the general state of affairs today, whether at the FOMC, among the media, the people, and those who cannot understand how such as state-of-affairs continues. Nevertheless, the opportunity exists to elevate comprehension. This was the goal in"Those FOMC Transcripts: Watch Out Below," (February 26, 2014). The effort continues, here, to describe how the whirlwind of noise escaping the Eccles Building reflected through the self-serving interpretations of the Wall Street experts is so perilous. 

 

  From the March 3, 2014, King Report: "Due to quivering Fed officials' incessant assertions that the Fed would halt or even reverse QE tapering if economic conditions warrant, an increasing universe of investors and traders see little or no downside equity risk."

There we have the reason various U.S. stock indices alternately hit all-time highs. We should not need The Charge of the Light Brigade to worry investors. The February 21, 2014, issue of Grant's Interest Rate Observer includes a front-page reminder that pre-tax profits of U.S. corporations as a percentage of G.D.P. are the highest since records began in 1946; after 382 of the S&P 500 reported fourth quarter results, average year-on-year gain on profit has been 10.7%; of the same cohort, revenue growth has been 0.7%. Presumably, these are not adjusted for price inflation which is currently raging in the United States, all claims to the contrary deserving ridicule.

At the September 16, 2008, FOMC meeting, Chairman Ben S. Bernanke was not blind to financial woes. He declared: "Conditions clearly have worsened recently, despite the rescue of the GSEs, the latest stressor being the bankruptcy of Lehman Brothers and other factors such as AIG." He did not stop there, acknowledging "[a]lmost all financial institutions are facing significant stress, particularly difficulties in raising capital, and credit quality is problematic, particularly in residential areas."

Nevertheless, Bernanke was not troubled. He concluded this discourse by opining: "We may have to wait for some time to get clarity of the last week or so." As discussed in my first go at the 2008 transcripts, the FOMC voted to sit still, voting unanimously to keep the fed funds rate at 2.0%. The reason for such repose is the central-banking fable that finance can be ignored; its Dynamic Stochastic General Equilibrium model will produce a monetary solution to address a dyspeptic stock market or a dollar meltdown.

In the same discussion as quoted above, Chairman Ben said: "We have been debating around this table for quite awhile what the right indicator of monetary policy is." He mentioned some proposed numbers, but, in any case: "I think the only answer is that the right measure is contingent on a model." And: "[Y]ou have to have a model."

(On a different topic, unrelated to the main discussion here, Simple Ben declared: "The ideal way to deal with moral hazard is a well-developed structure that gives clear indications.... We have found ourselves in this episode in a situation in which events are happening quickly, and we don't have those things in place." He had been Fed chairman for almost three years yet mentions the Fed's negligence in not addressing Too-Big-to-Fail banks as if he forgot to order corn-on-the-cob for the Fed's clambake.)  

This slapdash approach has not changed, is obviously unattached to the real world, and will leave Chairman Yellen helpless the next time markets and financial institutions melt. The otherworldliness of it all is captured in this discussion itself. The world's financial backstop (our man Ben) goes on for several pages at a time when Goldman Sachs and Morgan Stanley could not get funding from a counterparty. This is quite different than at the FOMC meeting on September 29, 1998, after Long-Term Capital Management went belly up. Then-Chairman Alan Greenspan took on a different personality from previous FOMC meetings. He demanded answers to questions about collateral and leverage that made him wonder if modern-day bankers knew what they were doing. (He recovered from this revelatory meeting as soon as LTCM faded, in a sycophantic stunt before the derivatives lobby that pays him so extravagantly today. See pages 189-190 of Panderer to Power. )

Of course, one wants to know: are we up a creek with Chairman Janet Yellen in command? Let us compare and contrast two speeches delivered on February 27, 2014. (I thank Doug Noland, at the Prudent Bear Fund for his transcription of Dr. Issing's comments in Bundesbankification .) 

Otmar Issing, former chief economist of the Bundsebank and ECB, spoke at the Bundesbank Symposium on Financial Stability, in Frankfurt, on February 27. Unlike Bernanke and Yellen, Issing thinks financial bubbles have consequences: "[P]rice stability is not enough. And I think this has dramatic consequences for the conduct of monetary policy. For me, the implication is very clear: policy which relies on a forecast (model) based on a real economy only without a financial sector - without taking into account money and Credit in a sensible way - is not anymore state of the art." Was it ever? Possibly when 59% of American profits came from manufacturing and 9% from finance. That was in 1950.

Issing never made headway during the mortgage madness: "I'm reminded of many, many meetings here or especially in the U.S. with my friends from the Fed. Their reaction was absolutely clear: when I referred to a potential bubble in real estate, what I heard always was 'never in the last 50 years have real estate prices fallen on a nationwide aspect.' For me, this was not a comfort."

He did not stand a chance of making headway with Bernanke and Yellen in 2006 and 2007: "[T]heir reaction to my critique or argument was very relaxed: 'In the meantime, we have had much higher GDP, higher employment, more houses, etc. So compared to the cost of raising interest rates would be much too high - much too high.' I have never seen so far the comparison of the high cost of the mess we are in if we take this 'risk management' approach."

Issing addressed the hostile stupidity of the academics in charge: "I learn that we're allowed to talk of Bubbles now, which was out of the question for a long time in research - "the buildup of Bubbles goes very slowly - softly - but the collapse goes very fast. So it's obvious that that the [central] bank should react in a decisive way one prices collapse." I think Issing may not have ventured to the U.S. lately. The "bubbles do not exist" lobby is pressing its point once again, and, once again, it is from the universities.

Back in Washington, on the same day, Federal Reserve Chairman Janet Yellen talked to the Senators. She is lost in space. A few statements that will not receive interpretation:

"Fiscal policy really has been quite tight and has imposed a substantial drag on spending in the U.S. economy over the last several years..."

"I'm slightly surprised that he [Fed Board Governor Daniel Tarullo] said we are 'nowhere close' [on resolving Too-Big-To-Fail] because I personally think we've made quite a lot of progress in putting in place regulations that will make a huge differences [sic] to this...."

"I agree that an environment of low rates ... and we have had a long period of low interest rates ... can give rise to behavior that poses threats to financial stability and therefore we need to be looking at that very carefully and we are doing so in a very thorough way, I believe."

"Since the financial crisis and the depths of the recession, substantial progress has been made in restoring the economy to health and in strengthening the financial system."

Closing on a higher plane:

Shirley Temple died recently. There have been many accolades but I don't know if the tributes have discussed her admirable character. She serves as a model for children and adults alike.

Her talent was described by Will Friedwald in the Wall Street Journal: "The most obvious thing to remember Shirley Temple for - a point so overwhelming that it barely needs to be stated - is that she was the greatest child star in the history of not just the movies but all of popular culture. No other youngster so dominated the box office and no other individual, other than Franklin D. Roosevelt himself, did more to deliver both Republicans and Democrats alike from the Great Depression. But what isn't said often enough about Shirley Temple Black is that when you compare her to the many dancing ladies in the movies who couldn't really sing (Ginger Rogers, Rita Hayworth, Cyd Charisse) and those terrific singers in films who danced merely passably (Judy Garland, Doris Day), Temple emerges as the major female triple-threat of her era and since. She was a singer of uncommon ability, capable of putting a song over with the best of them in an age when the competition was Al Jolson and Bing Crosby; a dancer worthy of comparison with Fred Astaire, Gene Kelly and even her longtime costar, the great African-American tap dancer Bill "Bojangles" Robinson; and an actress who could break your heart just by looking at you."

She was born with talent; it was her unalloyed resolution that made her an exceptional person. Each morning when she showed up on the set, she knew her lines, her steps, and her songs. This five, six, and seven-year-old girl was angry, joyful, or remorseful when the shooting started. The studio did not require second takes on Shirley Temple's account. It was said her mother pushed her into show business, but such strength is a habit that comes from within. She could have demanded the concessions movie stars are noted for exacting. She never did. Her talent could never have achieved the praise bestowed by Will Friedwald without habits "rooted deep in the whole personality. They have to be cultivated like any other habit, over a long period of time, by experience." (Flannery O'Connor) Few can match her industry, but, as was said above, she is a model of character.

            The actress Louise Brooks wrote: "Anyone who has achieved excellence knows it comes as a result of ceaseless concentration."

Those FOMC Transcripts: Watch Out Below

Frederick J. Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession  (McGraw-Hill, 2009) and "The Coming Collapse of the Municipal Bond Market" (Aucontrarian.com, 2009)

                    The Federal Reserve releases transcripts of FOMC (Federal Open Market Committee) meetings after a five-year wait. The 2008 transcripts were made public late, last week. The FOMC is the monetary policymaking body within the Federal Reserve System. Having read at least 10 years of transcripts when writing about Greenspan and his Fed, there is a lingering question of what might have been redacted before the public release as well as what might be said outside the boardroom so as to escape transcription. Every once in awhile some forward-thinking FOMC attendee (a rarity, to be sure) will remind the mob: "Remember, that comment will be public in five years."

The FOMC transcripts also do not include "other meetings at which smaller groups of Fed officials, working with the Treasury Department, arranged the bailouts of bankrupt Bear Stearns, the American International Group (NYSE: AIG), and housing service entities Fannie Mae and Freddie Mac. Nor do the transcripts include notes from the meetings at which policy makers decided to let Lehman fail." (FOXBusiness, "Fed Releases Transcripts from 2008 Meetings")

Nevertheless, the initial stories across news channels were full of ridicule and indignation at the FOMC's real-time ignorance as banks and markets collapsed. We are fortunate that two of the scheduled FOMC gatherings happened to be on March 18, 2008, and September, 16, 2008, immediately after the collapse of Bear Stearns and Lehman Brother, respectively. The FOMC also held a conference call on March 10, 2008, days before the Bear Stearns failure. The conversations from each show a body more incapable of making connections, translating their macro models to the real world, than a five-year-old. (I remember clearly: a five-year-old walking into the kitchen, looking at the September 16, 2008, New York Times, seeing a large picture of an ex-Lehman employee carrying her belongings out of the building, and asking: "Daddy, are we in a Depression?")

The story of the 2008 transcripts will fade. It must: to preserve faith in the Fed and the stock market. If the Fed was thought unable to "make connections," as it so clearly failed to do in 2008, this might cause a reduction in market exposure (from 99% to 98% leverage). Market authorities remind investors of "considerations which must nowadays modify ideas about the future. One is the power and protective resources of the Federal Reserve." (New York Times, September 9, 1929).

The Fed has been awarded greater power and resources than ever before (to put it mildly) since 2008, yet, the results of its "learning by doing" experiments show the FOMC is no wiser than when Chairman Ben S. Bernanke, Great Depression scholar and legend in his own mind, gathered his flock on September 16, 2008. In the same monologue, the professor claimed: "I think that our policy is looking actually pretty good" and "I am decidedly confused and very muddled about this." He might seem to possess the wiring of a schizophrenic, but there actually is no contradiction in the professor's mind. It is we who wander without full knowledge.

The Fed, ECB, IMF, and fellow travelers operate under the presumption any disturbance can be corrected by central bankers. Their model says so. The Dynamic Stochastic General Equilibrium (DSGE) model made it certain the Fed would not take action before the 2007 financial implosion. The economist Bernard Connolly wrote to his clients in 2006 (when at AIG) the Federal Reserve would not - could not - act beforehand. The holy DSGE model was the reason Bernanke could feel kinda' good when he was confused and muddled. The model provides a central-banking solution for all human errors. Connolly wrote on February 4, 2008, the "DSGE contention that negative demand disturbances (although perhaps exhibiting some serial correlation) rather soon revert to an expected value of zero, is, in conditions of intertemporal disequilibria, nothing more than a fairy tale..." This is difficult to absorb, especially in such an abbreviated form, but it is way the world works (currently). All of Connolly's work from that period can be read at his firm's website, "Hamiltonian Associates," under the "AIG" tab.

The vote was unanimous at that September 16, 2008, meeting: to do nothing, leave the funds rate at 2.0%. Within days, Bernanke and Hank Paulson were terrorizing congressmen and Americans: the end was nigh. In case you have forgotten the general panic, an example was at a Whole Foods outlet where a woman of means turned and asked "I'm worried. Do you think we're in a Depression?" The customer so queried told the worrywart: "You'll have to ask my daughter." Which she did. This customer's five-year-old daughter, having given some thought to her confusion on the morning after Lehman's failure, replied: "Some parts of the country are in a depression, but we are not, at least, yet." This response relieved the anxiety of the woman of means.

The point is not whether the five-year-old was correct or not, but that she had given more thought to current events than the entire FOMC bureaucracy. Chairman Bernanke spoke for those who worshiped the DSGE model at the October 7, 2008 meeting: "It's more than obvious that we have an extraordinary situation.... I should say that this comes as a surprise to me." This is to be expected. Financial markets are not part of the model.

Since 2008, central bankers have been "learning by doing," as Simple Ben told a Jackson Hole, Wyoming audience on August 31, 2012. His speech carried the title of "Monetary Policy Since the Onset of the Crisis." The speech made clear the model was holier than ever. ("It is likely that the crisis and the recession have attenuated some of the normal transmission channels of monetary policy relative to what is assumed in the models...") Reliable sources report the DSGE model is still sacred at the Yellen Fed. In fact, the younger generation of economic Ph.D's who now tweak the input have often learned nothing else in their post-graduate work.

            It is important for the rest of humanity to comprehend the consequences. No action will be taken to prevent what cannot happen. The media sometimes veers towards the fatal FOMC flaw but lacks a full understanding. Thus, Binyamin Appelbaum, writing about the 2008 transcripts in the February 21, 2014, New York Times, explained: "The Fed's understanding of the crisis, however, was clouded by its reliance on indicators that tend to miss sharp changes in conditions. The government initially estimated, for example, that the economy expanded in the first half of 2008 because it basically assumed that some economic trends, like the pace of business creation, had continued apace. The Fed also relied on economic models that assumed the existence of smoothly functioning financial markets, limiting its ability to project the consequences of a breakdown."

            Appelbaum does not quite understand the assumption "of smoothly functioning financial markets" is imbedded in FOMC policy. Financial markets are not part of the DSGE model since "negative demand disturbances" of financial markets "rather soon revert to an expected value of zero." Therefore, they do not exist and FOMC transcripts from 2009 through 2014 will show discussions by the hallowed professors made no allowance for reality and were "nothing more than a fairy tale."

An unrelated note. From the February 26, 2014 Wall Street Journal: "LONDON - Last summer, Adrian Eady, a banker with Royal Bank of Scotland, was nearly crushed hauling a crate of feta cheese off a forklift truck in a North London warehouse."

Does anyone understand what's going on?