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Janet Yellen channels Billy Flynn? Last
week the Fed Chairwoman treated us to a master class of rhetorical
misdirection which produced some memorable examples of doublespeak, including
the soon to be classic "Just because we removed the word 'patient'
does not mean we're going to be 'impatient."' But perhaps more
surprising than her new heights of verbal dexterity was the market's euphoria
at being so blatantly manipulated. Never has the financial world enjoyed a
lie so thoroughly.
By simultaneously claiming to be both aggressive and defensive, and to be
moving forward even while standing still, Yellen positioned the Fed as being
all things to all people, thereby igniting a rally in all asset classes at
the same time. Stocks, bonds, gold, foreign currencies, all went up when
Yellen took to the podium. While this may be the way to win friends and
influence people on Wall Street, it's no way to finally put the economy back
on the path to a sustainable recovery.
If the removal of the word 'patient' did not move the Fed closer to
raising interest rates for the first time in nine years, then why remove it
at all? Why take a step forward if you are also taking a step back? It makes
sense only if you believe, as I do, that the Fed is far more concerned with
maintaining the illusion that rate increases are possible, when it knows that
they are extremely unlikely.
This is a game that they have been playing for the better part of six
years. Sound tough, set benchmarks, and then back away when crunch time seems
nigh. The act should have grown stale years ago, but we have come to crave
the pantomime. The more audacious it becomes, the more we applaud.
Despite the removal of a single word (that prompted the Wall Street
Journal to headline its lead story that rate hikes were put into play), there
were far more indications, contained in the Fed statement, or spoken by
Yellen herself at the subsequent press conference, that should lead us to
conclude that increases are far less likely now than they were before the
statement was issued. But such a straightforward understanding should have
led us to conclude that the economy is stalling. No one wants to look at that
possibility squarely in the mouth.
2015 was supposed to be the year in which all the strands came together to
create a real recovery, an environment in which rate hikes would be a
certainty. But anyone who looks past the rosy rhetoric can see that the
economy is currently in one of its weakest periods in years. The first
few months of 2015 have seen more missed economic forecasts than any other
comparable period since the depths of the Great Recession. Industrial
production, retail sales, housing starts, just to name a few, are all
continually weakening according to data from Reuters Polls, 3/18/15. In
fact, the Atlanta Fed's much talked about "GDPNow" data set, which
was supposed to provide a fresh real-time look at the economy, is showing
that the economy is growing at a paltry .3% annualized rate. While many
people are blaming the result on the winter weather, much as they did last
year, it is worthwhile to note that ice and snow in winter is not a new
phenomenon.
So it should have been seen as unbelievably telling that as the data is
deteriorating, the Fed has more openly shifted into a "data
dependent" stance to drive its policy decisions. But at the moment, the
markets are ignoring all the bad metrics to believe that the Fed is only
looking at one data set that actually looks decent (at least on the surface).
The "non-farm payrolls" jobs report shows unemployment drifting
ever lower and now stands at just 5.5%, a level usually associated with
"full employment" and a strong economy. The rate has
fallen further and faster than just about anyone predicted, and has
blown through the Fed's previously announced, and abandoned, levels that were
supposed to have triggered rate normalization. The rate is indeed low, but
apparently not low enough for the Fed.
At her press conference Yellen stated that she would need to see
improvement in the labor market, from where it stands now, in order to pull
the trigger for a rate hike. But given the dismal nature of the other
metrics, how can she expect further improvements in the job market anytime
soon? In reality, we may have already seen the lowest unemployment number and
highest job creation we are likely to see for a long, long time. If that
wasn't enough to get the Fed moving, what exactly do we think will do the
job?
If the Fed does not think that 5.5% unemployment is low enough to justify
even a .25% Fed funds rate (a level that would traditionally be considered an
emergency stimulus for a free-falling economy), then it should be clear that
it does not believe that the labor market really is that strong. Perhaps the
Fed is looking at the collapse in labor force participation, and the
proliferation of involuntary part-time employment, as evidence that the
market is far weaker than it publicly acknowledges.
The Fed also suggested that a medium-term (whatever that means) inflation
rate above its 2% target might also cause it to lose patience and raise
rates, but I would not hold my breath waiting for that one. Much as it did
with unemployment, I expect that goal post to be moved further and further up
the field. My guess is that the Fed will tolerate an inflation rate
significantly above 2% rather the risk the seemingly more adverse
consequences of higher interest rates.
For now the public debate spectrum on rate increases spans those who
expect the Fed to get the ball rolling in June or September (the September
camp appears to have the upper hand). The shared belief that increases will
certainly occur in the near term stems from the misconception that previous
rate cuts (and three rounds of QE) have succeeded in putting the economy back
on track. Now that the economic bicycle is rolling along, they believe that
it's long past the time for the Fed to remove the training wheels. But what
if, as appears likely, QE and zero percent interest rates were the only
wheels? Take them off and the bike falls. However, leave them on too
long and we will eventually cycle over the edge of a cliff, as the
bottom drops out of the U.S. dollar.
That is the real policy dilemma. The Fed's hyper-stimulative monetary
policy was a mistake from the start. It did not repair fundamental economic
problems but merely delayed the inevitable pain associated with their
resolution. However, that borrowed time comes at great cost as the
now-enlarged problems will be that much more painful to resolve.
But the degree to which "experts" have accepted the false
proposition that Fed policy has been helpful is now more fully entrenched. As
the economy once again careens toward recession, the calls for another round
of QE will grow louder. Perhaps when it comes to QE, the 4th time will
be the charm. But as I said from the beginning, QE is like trying to put out
a fire with gasoline. The more you throw on, the bigger the fire gets. I
expect the next round of QE will be even bigger than the last. It remains to
be seen if a larger dose will be enough to convince the markets that the
medicine is not really working.
Best Selling author Peter Schiff is the CEO and Chief Global
Strategist of Euro Pacific Capital. His podcasts are available on The Peter
Schiff Channel on Youtube
Catch Peter's latest thoughts on the U.S. and International markets
in the Euro Pacific Capital Winter 2015 Global Investor
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