Fed Sends a Message With Discount Rate Hike

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The U.S. Fed raised its discount rate after the market close on Thursday, February 18th. The rise in rates from 0.50% to 0.75% was characterized by the central bank as further normalization of the Fed's lending facilities. While the Fed's discount rate action is mostly symbolic, it raises the question of when the historically ultra-low fed funds rate will be normalized. As would be expected, the U.S. dollar rallied and gold sold down on the news.

The discount rate is not an important factor in control of money supply, but is the Fed's mechanism for getting money to banks when they are in crisis, either individually or because of a systemic shock. During the Credit Crisis the Fed created a number of new programs to temporarily accomplish this goal. Five of those programs were ended on February 1st. Another one, the TAF (Term Auction Facility), will have its final auction on March 8th. Prior to the Credit Crisis, the discount rate was usually a full percentage point above the fed funds rate. Even with the recent rise, it is only half to three-quarters point higher. We are still not yet back to the way things were pre-Credit Crisis. Fed Chair Bernanke has been saying the U.S. banking system was fixed for many months now. If that is the case, why has he waited so long to get the Fed's operations back to the way they have been historically when there is no crisis?

The last time the Fed began a major policy change was with a move in the discount rate. The Fed first cut this rate by 50 basis points in August 2007. One month later, it started lowering the fed funds rate and continued doing so until instituting its current zero to 0.25% rate policy in December 2008. While Bernanke's signature approach is to change the discount rate first, the time lag is likely to be longer than one month this time. Members of the Open Market Committe may already be losing their patience for ultra-low rates however. The Kansas City Fed Governor dissented at the January meeting on the fed's message of "exceptionally low levels of fed funds rates for an extended period". He wanted language that indicated something briefer.

Higher U.S. interest rates are of course bullish for the dollar. Although the U.S. will have to raise rates by 0.50% to be higher than Great Britain's rates, by 1.00% to outdo the euro zone, and by 3.75% to challenge Australian rates. The U.S. trade-weighted dollar continued its rally on the Fed news and is flirting with nine-month highs. The euro on the other hand fell as low as 1.3443 on the news. Technically, the dollar confirmed its rally with the 50-day moving average moving above the 200-day - a classic buy signal.  The euro has the opposite chart pattern and the 50-day average having dropped below the 200-day earlier this month. Gold held up better than expected. February is a month of strong seasonal buying for the metal and this has provided enough buying pressure to prevent significant drops for now.

Disclosure: No positions.

NEXT: Greece's Statistical Lies - Are the Numbers Any Better in the U.S.?

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

In for a Penny, In for a Pound

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

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The third quarter GDP figures for Great Britain were released last night and GDP fell 0.4%. I particular liked the headline "UK Still in Recession After Surprise Contraction" announcing the drop. This was the sixth quarter in a row that GDP was down in the UK. So who exactly was surprised by this? Probably just mainstream economists and anyone who reads the drivel published in their reports. One survey indicated that 100% of economic analysts had predicted that British GDP would go up this quarter - and they were all wrong. This is not uncommon. Mainstream economists frequently all ere on the wrong side of a number and are the last to know what is really going on in the economy. There is probably no profession as prone to group think and making errors in its predictions.

Once the GDP numbers were released there was immediate speculation that the Bank of England would increase its quantitative easing (aka money printing) program. The British pound fell by a penny almost immediately. This helped the trade-weighted dollar rally, since the pound is one of its components. The dollar rally was most noticeable when U.S. trading opened however. Gold and silver which reacted bullishly in overnight trading to this potentially inflationary news, dropped straight down after the U.S. markets opened. We have seen this pattern over and over again. A knowledgeable cynic would claim only blatant manipulation of the dollar and the precious metals markets backed by the U.S. government could account for it.

It's only a matter of time though before gold breaks out from its current trading range between $1050 and $1070. Indians spent $2.15 billion buying gold last week during their festival period. Gold sales were 5.7% higher than last years. India has accounted for 20% of global gold demand for many years now. There were a number of reports released by the gold bears in September about how the high price of gold would severely damage gold demand in the subcontinent this fall. It is now clear that that's not going to happen. Gold has traditionally been the way to store wealth in India and this habit goes back at least 2000 years. The Indians have never trusted paper currencies and over time have accumulated massive hoards of the precious metal. This deeply ingrained preference for gold is not going to disappear any time soon.

While Indian demand for gold is likely to remain high, it will probably be overwhelmed at some point by investment demand from ETFs and other sources thanks to the quantitative easing programs in the U.S. and UK. Jewelry has accounted for a majority of gold demand in the past. In India and other developing countries jewelry is purchased as an investment (the gold is frequently almost pure 22 caret as opposed to the diluted 14 caret gold used in jewelry in the U.S.), not as a luxury item as is the case in developed economies. Eventually, Westerners will find that the ancient habits of the East are just as good today as they were long ago.

NEXT: Interest Rates Break Out

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21


This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Dollar Weakens; S&P's British Outlook, TED Back From Dead

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

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Minutes for the Federal Reserves April 28-29th meeting were released yesterday and they revealed that the Fed thought that more purchases of long-term debt might be necessary to spur the economy into recovery (and uncontrolled inflation... but they left that part out). More quantitative easing would require the 'printing' of additional currency and debase the dollar even further. Not surprisingly the dollar fell on the news and hit a 7-month low of 80.002 (if it breaks key support of 79, watch out below). While the condition of the U.S. government's finances are in worse shape than Britain's, S&P revised Britain's credit rating outlook to negative this morning. While the pound fell for a short time, it is way above its lows against the dollar. Even though the central banks are flooding the world with more fiat money, the TED spread, a measure of stability in the global financial system, has returned to normal levels - this is a necessary, but not sufficient condition for recovery.

The need for the U.S. to print more money well into the future could easily be determined by anyone with knowledge of elementary arithmetic. Nevertheless, the market is constantly surprised such a thing will be necessary. Bonds and the dollar should sell off on this news, but stocks and oil are getting hit today as well. Oil, which has to be purchased in U.S. dollars, should automatically go up if the dollar falls or if there is news about increasing inflation. NYMEX crude closed at $62.04 yesterday and is still above its breakout point of 60. Gold was flat this morning and silver down slightly. They should be zooming.

Although S&P changed Britain's credit outlook to negative, this is not as bad as being on credit watch. S&P reaffirmed Britain's triple A credit (they also rated a large number of subprime mortgage bonds triple A, so take that into account when considering the accuracy of this rating). S&P is worried that Britain's government debt will rise to 100% of GDP by 2013. If the U.S. doesn't beat Britain to this milestone, we will indeed be lucky. If there was an accurate measure of both out national debt (it's understated) and our GDP (it's overstated), we might indeed already be there. Perhaps S&P will be making an announcement on this matter soon?

The TED spread was mentioned frequently in this blog last fall. When the financial system is in stress it zooms upwards. Its long term average is around 50 basis points. It went over 450 last October, substantially exceeding its peak during the 1987 market meltdown. It was 48 this morning. This indicates that the global banking system has returned to normal interbank operations. This was an important goal of central bank policy that they have been successful in accomplishing it. Now that stabilizing the banking system has been achieved, the possibility of economic recovery exists.

NEXT: A Golden Opportunity with a Silver Lining

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

The Canary in the Coal Mine, the Foxes Guarding the Chicken Coup

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

The government in Iceland collapsed yesterday. Severe economic decline combined with rising prices (a combination that the U.S. press constantly says can't exist together, but which reality indicates can) did the present administration in. The government received sweeping powers, which included potentially unlimited control of every business in the country, in an attempt to fix it. This approach never worked in communist countries and certainly wasn't going to work in Iceland either. Government policies in Iceland, just as in other developed economies, made the financial crisis possible. Since it was the government that allowed the economy to get beyond repair, it is not surprising the same government couldn't fix it.

The key to solving the Credit Crisis is to stop rewarding people for failure and instead punish them for it. Leaving the foxes in charge of the chicken coop is a guarantee that nothing will be fixed. A new study came out this morning showing that at least 90% of the top executives at banks and brokers that are receiving U.S. government bail out money are still at work. The very same people who made the bad decisions that have destroyed the financial system are being rewarded for doing so. In many cases, they are still receiving bonuses, paid by the U.S. taxpayer, for their 'excellent' performance. Why should anything get better under such circumstances? The newly appointed Treasury Secretary, tax cheat Timothy Geithner, is a strong advocate of government bailouts, so don't expect much change on that front. Based on his own personal behavior, he also obviously thinks there should be one set of rules for the people in charge and another for everyone else. How effective is he going to be in showing the corrupt and incompetent Wall Street elites the door?

Under such circumstances, it is not surprising that consumer confidence hit a new all time low of 37.7 in January. The present situations index, which measures how consumers feel about the current economy, declined further to only 29.9. The gloomy mood of consumers is translating to lower retail sales in the last many months and will create increased unemployment and bankruptcies in the retail sector in the not too distant future. Consumers are not only being hit by the threat of unemployment, but the two major pillars of wealth in the economy, the stock market and home prices, have pulled the rug out from under them. Just today, the Case Shiller home price index for November declined 18.2% year over year. A separate report a few days ago indicated house prices in California had dropped 38%.

While tiny Iceland can be bailed out by the World Bank, who is going to bail out Great Britain or the U.S.? The collapse phase of the Credit Crisis showed up first in Iceland because its small economy doesn't have the same degree of buffers and interdependencies that protect larger economies (at least in the short term). Iceland looks like the canary in the coal mine that expires first when exposed to toxic gas and warns the bigger miners to get out before the same thing happens to them. In our current economic situation, the bigger miners are just not taking the appropriate action to save themselves.

NEXT: The Latest from Davos Switzerland

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Britain Points the Way to U.S. Economic Future

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

As of today, Great Britain is officially in recession, joining the U.S., Japan and Germany. Britain's GDP shrank 1.5% in Q4 2008, after shrinking 0.6% in Q3 2008. Those are at least the official figures, it is quite probable that the actual ones are even worse. Notable declines took place in the banking, retail, and manufacturing sectors (just like in the U.S.). The FTSE fell below 4000 and the pound dropped to 1.35 per U.S. dollar, a 23 year low, on the news.

Great Britain was once the premier economy in the world. The British pound was once the world's reserve currency. A rigid class system which guaranteed entitlement to those on top - similar to contemporary Wall Street in the United States - followed by socialist practices that offered entitlement to those on the bottom have over time eroded the country's economic dynamism. Early in the 20th century the capitalist free for all and innovation friendly U.S. began to assume economic preeminence after World War I. U.S. currency dominance was made official at Breton Woods in 1944 toward the end of World War II.

One of the most shocking stories in the history of technology illustrates quite clearly how Britain and U.S. attitudes differed in mid-century and why the U.S. became the post World War II economic powerhouse that it did. Both Britain and the U.S. developed early electronic computers for war time use. At the end of the war, the British government destroyed even the plans for the computers fearing they would fall into the hands of the Russians. The U.S. made the plans publicly available by publishing them, engendering one of the biggest growth industries of all time. The lesson of openness and transparency is currently being lost in the U.S. however with the Federal Reserve and Treasury engaging in significant and frequently secret manipulation of the financial system. In the long term this is only going to prove to be disastrous - although the short term results have been horrendous enough as is.

The response of the British prime minister, Gordon Brown, to the current British recession is that it is a result of global events. In case anyone has forgotten, Gordon Brown was the Chancellor of the Exchequer (equivalent to U.S. Treasury Secretary), who took the decision to sell half of British gold reserves in 1999 , when gold was around $260 an ounce, to buy among other things, U.S. dollars. Brown also has presided over a subprime crisis, 125% housing loans to people who could never pay them back were common, that is much worse than in the U.S. Unfortunately, while Gordon Brown is one of the most economically incompetent officials ever to run a major economy, he has plenty of company on the world stage these days. George Bush is certainly in the running for a close second. Many Japanese leaders in the last 25 years would be up there as well. Because economic idiocracies are common place in the world today, drastic action will be required to fix things. If the U.S. doesn't take appropriate action soon, it will be following Britain down the path of long term economic and currency decline.

NEXT: Unemployment Everywhere

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.