Sunday Evening Crunch
October 5th, 2008 8:24 pm | by John Jansen |The Wall Street Journal on line carries a story on the weekend woes of the credit markets. This time Europe has its has full.
The Financial Times says that the Federal Reserve is under increasing pressure to shock the system to its senses. They are running out of bullets. They have shocked the system continuously since August 2007 with efforts which previously only been discussed on the safe sanctuary of a money and banking seminar.
For a salutary outcome the Federal Reserve and the other central banks need to locate a seller of time. That will solve the problem. I hope that they can find the seller before the current supply of time runs out.
Crisis in Europe benefits the greenback.
Problems intensify in Iceland.
7 Responses to “Sunday Evening Crunch”
By Matt Dubuque on Oct 5, 2008 | Reply
I think the Fed should reprise “Operation Twist” which they performed in the Kennedy Administration.
What that entails is SELLING Treasuries of extremely short maturities and BUYING Treasuries of longer maturities.
This will have a positive effect on various term structures.
Matt Dubuque
mdubuque@yahoo.com
By David on Oct 6, 2008 | Reply
They should flood the system with dollars. The old Bernanke dollar drop. They could so this is a few different ways.
This one is my favorite.
A $20K per person voucher for debt repayment issued by the US Treasury. The Treasury offers normal treasury bonds and if the market doesn’t buy them, the Fed buys them (i.e. it prints) to keep the yields down. This is inflationary of course and is exactly what is needed to avoid the debt deflation. This would be several trillion dollars and would bail out anyone with debt and also the banking system.
This could be toned down a bit or focused on mortgages etc. Still it seems to solve the major problem of an over-indebted US consumer.
What are the downsides? Well higher national debt is one. However that is not really true. It just transfers the debt from the indebted to the tax payer. But then again, who does not have some debt?
The good thing to keep in mind is that we are all in debt in our own currency. That point cannot be emphasized enough. Deflation is the only risk. Inflation is not to be feared. If the dllar drops then so be it. That might need to happen anyway to eliminate our massive trade deficit. Something like this is bold and I hope Bernanke is bold enough to do it.
By self on Oct 6, 2008 | Reply
David,
I suppose that would work just fine if this were a textbook quiz on a closed economy model but it’s not. So please tell us what the next Fed move is when foreign CBs and SWFs begin dumping their holdings which are overwhelmingly at the short end ?
By David on Oct 6, 2008 | Reply
They are not going to dump. That is why it works. They can’t dump treasuries. It does nothing but hurt them. I have thought about this a lot and have reached that conclusion. Maybe I am wrong but I don’t think so.
Think about it from the point of view of China. It is the same for most other Asian central banks. They need the cheap dollar to keep their export dominated economies growing. The US and Europe are entering recession and this will decrease demand for Chinese exports. They are going to have a very hard time handling that as it is. They know the US consumer is in horrible shape and they don’t have time to rebalance their economies and reduce the export exposure.
My guess is that China would gladly buy the treasuries to support such a plan. The alternative are much worse for China. A crash landing of their export machine could be the end of the Communist Party. Taking some capital losses on their dollar denominated treasury portfolio is not one of their main concerns. China and other Asian CBs will want to reduce dollar exposure eventually but I think now is the absolute worst time to try to do so. I think they know that.
If you were Benrnanke, what would you do? If you were China, what would you propose Bernanke do?
By geert on Oct 6, 2008 | Reply
David
I’ll rather take a bet on a strengthening dollar in that case and I won’t be the only one.
By David on Oct 6, 2008 | Reply
geert. What do you mean exactly? Are you saying that you expect a strengthening dollar in the near term due to the lack of aggregate demand? If so, I agree.
However in the longer term, the dollar will probably weaken versus the Asian currencies assuming their economies do not blow up.
I actually like Gold a lot. If countries start engaging in competitive devaluation, then no currency will be very strong except God’s currency, the yellow stuff. It will likely be weak in the near term but long term it should be much sought after as the nations of the world try to sort out the next monetary system. Surely gold will play a part.
By geert on Oct 6, 2008 | Reply
David
“Are you saying that you expect a strengthening dollar in the near term due to the lack of aggregate demand? ” Indeed, money invested abroad returns home in times of distress.
I agree that one day the currencies of some EM countries will rise (I tend to go for countries with a demographic dividend). The questions are which ones and above all when.
I don’t believe in gold for the moment. I don’t even believe that it’ll make part of the next monetary system, but that’s a long story. All this doesn’t mean that at some moint in time, it could be interesting to gamble on it.
Maybe I’ll just add this. The yields on the 3m T-bills show that confidence in government is prevailing. Gold can only shine when that confidence fades.