Money for nothing and your trains for free
What does an Austrian economist think of the tomfoolery at Volkswagen? Does the existence of inequality always indicate injustice? Is Britain better off leaving the EU? Are low interest rates immoral? Does Europe have a refugee crisis or an illegal immigration crisis?
If any of those questions interest you, you should listen to the conversation John Stepek and I had recently with Dr Barbara Kolm. Dr Kolm is the president of the Friedrich Hayek Institute in Vienna and the director of the Austrian Economics Centre. She dropped by the MoneyWeek studio for a 40-minute chat. You can listen to it here.
Tim Price was also in. He's in excellent form right now. Nick O'Connor and I interviewed him about a cashless society and what exactly he means by the term 'Financial Martial Law'. Those are the types of subjects we've been writing about regularly at Capital and Conflict. If they interest you, you can sign up for it here.
Yellen falls ill
Recent headlines focus on Janet Yellen's volte face on interest rates. Seeing how displeased markets were with the US Federal Reserve's inaction last week, Yellen took the stage at the University of Minnesota. She said, "Most FOMC participants, including myself, currently anticipate... an initial increase in the federal funds rate later this year, followed by a gradual pace of tightening thereafter."
That should've cleared things up. But it didn't. The Fed didn't raise rates last week. But it wants everyone to believe it will raise rates this year. Or next year. Or eventually. Judging by the reaction of markets, investors don't believe the Fed anymore.
I'll come back to that in a moment. There was an alarming incident at the end of Yellen's speech, though. She seemed to lose her place several times. There were two long and awkward pauses. And she appeared to be either uncomfortable or in some physical distress.
Strangely, no one came to her aid to see if she was well. She finished her remarks and was helped off the stage. Wire services reported that she received medical attention after the speech. They cited dehydration caused by the bright lights of the stage. Yellen resumed her normal schedule later in the afternoon.
You can find the clip on YouTube. It's uncomfortable to watch. It's also a reminder of the enormous stress Yellen must be under. As a human being, you sympathise. It also perplexes me that no one stepped into help her. But everyone reacts differently in a crisis.
From a purely rational perspective, you can understand why she'd be feeling the pressure. She's in the centre of a system where human beings claim to have enough knowledge to know the price of money. That system is cracking and buckling. It's taking a human toll too.
From an 'optics' point of view, it's not a good look. Everyone at the Fed knows that. In a 2004 paper about "Monetary Policy Alternatives at the Zero Bound", Ben Bernanke wrote about one of the Fed's most powerful tools in boosting inflation expectations. He used the word "communication" 30 times in the paper. Bernanke wrote the following (emphasis added is mine:
"Although communication is always important, its importance may be elevated when the policy rate is constrained by the ZLB [zero lower bound]. In particular, even with the overnight rate at zero, the central bank may be able to impart additional stimulus to the economy by persuading the public that the policy rate will remain low for a longer period than was previously expected. One means of doing so would be to shade interest-rate expectations downward by making a commitment to the public to follow a policy of extended monetary ease. This commitment, if credible and not previously expected, should lower longer-term rates, support other asset prices, and boost aggregate demand."
The Fed is trying to do the opposite today. It's trying to talk interest rates up without actually moving them up. It wants the effect without the action. Markets aren't buying it any more. Now it has a credibility problem. Bernanke wrote about that, too, in this 2004 paper:
"Shaping investor expectations through communication does appear to be a viable strategy... By persuading the public that the policy rate will remain low for a longer period than expected, central bankers can reduce long-term rates and provide some impetus to the economy, even if the short-term rate is close to zero. However, for credibility to be maintained, the central bank's commitments must be consistent with the public's understanding of the policymakers' objectives and outlook for the economy."
It's the last part that's interesting as we end the week. If the Fed thought the US economy was healthy, it would have raised rates. If the Fed thought the world was normal, it would have raised rates. If the Fed thought China wasn't a risk, it would have raised rates.
The Fed didn't raise rates. But now it says it will. The market doesn't find the Fed credible. The expectation of low rates and more quantitative easing (QE) has been the foundation of the bull market since 2009. As the foundation crumbles, it could take the bull market with it.
The blood supermoon
In a completely unrelated astronomical note, watch for the 'blood supermoon' on Monday, 28 September. It should be a sight to see. The moon will appear huge, hence the 'super' designation. Its position in the sky and its proximity to Earth create the effect. The 'blood' part is more confusing. The reflection of the sun off the Earth's atmosphere apparently accounts for the effect. In any event, have a look. It should be memorable.
Marxist Greek gives Brits an earful
Former Greek finance minister Yanis Varoufakis took the British airwaves last night and gave the City and George Osborne an earful. In this instance, it's hard to disagree with him. He said:
"The notion that the Bank of England prints mountains of money, purchases paper assets in the City of London, bolsters banks – which they had to do – but that then that will trickle down into productive investment, that is a fantasy. Alternative QE is something which should be discussed. Milton Friedman and Ben Bernanke, who are on the same side of politics as the Tory party, would want to have this discussion."
By 'alternative QE' he was referring to Labour leader Jeremy Corbyn's plan for a "people's QE". Keep your eye on this. Another way to think about it is monetary policy as fiscal policy. Instead of the government borrowing money – which would create an even larger deficit and debt for Britain, politically unacceptable at the moment – the central bank would monetise government debt straight away.
What does that mean? Say you want to build a new railway that costs £1bn but you don't want to borrow to do it (sell bonds to the public). You sell them to the central bank instead. The Treasury issues the debt. The Bank of England buys it with new money it creates ex nihilo.
Presto!
Change-o!
Money for nothing and your trains for free.
It's coming soon to an economy near you.
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