Credit inflation, Deflation: Prechter Interview

[Finster]

Re: Credit inflation, Deflation: Prechter Interview

By the way, HUGE actions from the Fed & Treasury today.

A $13 billion TIO and another $5 billion TIO.
A $1.329 billion coupon pass/POMO.
A $7.25 4 day and a $9 billion 14 day temp repo.


Moon shot attempt likely time on the Dow, etc....

I take it these are not restraining actions on the money supply ... ?

[bart]

Re: Credit inflation, Deflation: Prechter Interview

I take it these are not restraining actions on the money supply ... ?

Precisely, oh Manor Maven... the Fed doth speaketh with forked tongue.

[Jim Nickerson]

Re: Credit inflation, Deflation: Prechter Interview

December 14, 2006
Can the Second Coming of Paul Volker Save the Dollar?
by Antal E. Fekete

"The replay of history in 2007 will be similar except with the opposite signature. Interest rates are still declining, and so are prices adjusted for inflation. Deflation is being imported into the United States from Japan, through the mechanism of the carry-trade. It appears to confirm and surpass Bernanke's worst fears. Lethargy is spreading. Businessmen decline to take the loans offered at historically low rates. Production keeps contracting; unemployment may follow with a lag. We may even see, horribile dictu, some genuinely falling prices! Yet these events could be just a smoke-screen camouflaging an incipient hyper-inflation that would wipe out the dollar for once and all." JN underlined.

As I understand Fekete, he is suggesting the approaching end of a Kondratieff long-wave cycle that began it upswing in 1947, having topped in 1977. He is suggesting a period of deflation that he says is being imported from Japan via the carry-trade. To me there is similarity in what he is saying with Ka-Poom, but probably worse than EJ theorizes.

Fekete says the $400 quadrillion derivative market represents unlimited quatities of latent demand for new bonds. Because of the carry-trade in Japanese bonds, the US interest rates will continue to fall. He suggests, "All this means deflation, even depression. Bernanke will keep stoking its fires by printing more dollars, hoping that the new money will go into commodity speculation, ending the depression. It won't. The new money will go into bond speculation, deepening the depression. That's where smart money is made. In the bond market. On the long side. This is what makes the depression feed upon itself." JN underlined

What might be the effect on gold? Fekete: "Part of that scenario is the price of gold. It will not be allowed to escape the gravity of earth, as it would do in the absence of clandestine official intervention. Although they will be able to limit the rise in the gold price, the powers-that-be will not be able to limit the rise in its volatilility. Gyrations of gold will assume galactic dimensions, increasing uncertainty in its wake. Enormous fortunes will be made -- and lost -- both by the bulls and the bears betting that "the trend is their friend"."

Question: Just how many bonars exactly are 400 quadrillion?

[jk]

Re: Credit inflation, Deflation: Prechter Interview

December 14, 2006
Can the Second Coming of Paul Volker Save the Dollar?
by Antal E. Fekete

"The replay of history in 2007 will be similar except with the opposite signature. Interest rates are still declining, and so are prices adjusted for inflation. Deflation is being imported into the United States from Japan, through the mechanism of the carry-trade. It appears to confirm and surpass Bernanke's worst fears. Lethargy is spreading. Businessmen decline to take the loans offered at historically low rates. Production keeps contracting; unemployment may follow with a lag. We may even see, horribile dictu, some genuinely falling prices! Yet these events could be just a smoke-screen camouflaging an incipient hyper-inflation that would wipe out the dollar for once and all." JN underlined.

As I understand Fekete, he is suggesting the approaching end of a Kondratieff long-wave cycle that began it upswing in 1947, having topped in 1977. He is suggesting a period of deflation that he says is being imported from Japan via the carry-trade. To me there is similarity in what he is saying with Ka-Poom, but probably worse than EJ theorizes.

Fekete says the $400 quadrillion derivative market represents unlimited quatities of latent demand for new bonds. Because of the carry-trade in Japanese bonds, the US interest rates will continue to fall. He suggests, "All this means deflation, even depression. Bernanke will keep stoking its fires by printing more dollars, hoping that the new money will go into commodity speculation, ending the depression. It won't. The new money will go into bond speculation, deepening the depression. That's where smart money is made. In the bond market. On the long side. This is what makes the depression feed upon itself." JN underlined

What might be the effect on gold? Fekete: "Part of that scenario is the price of gold. It will not be allowed to escape the gravity of earth, as it would do in the absence of clandestine official intervention. Although they will be able to limit the rise in the gold price, the powers-that-be will not be able to limit the rise in its volatilility. Gyrations of gold will assume galactic dimensions, increasing uncertainty in its wake. Enormous fortunes will be made -- and lost -- both by the bulls and the bears betting that "the trend is their friend"."

Question: Just how many bonars exactly are 400 quadrillion?

i can't say i understand how the yen carry trade implies the u.s. is importing deflation. to me it looks like the u.s. is importing the boj's attempts at REFLATION, i.e. the u.s. gets an unnaturally low cost of credit. cheap credit is not a recipe for deflation, unless the "cheapness" is merely nominal and the rate of interest is in fact over the rate of inflation. it sure doesn't look that way to me.

[Jim Nickerson]

Re: Credit inflation, Deflation: Prechter Interview

December 14, 2006
Can the Second Coming of Paul Volker Save the Dollar?
by Antal E. Fekete

"The replay of history in 2007 will be similar except with the opposite signature. Interest rates are still declining, and so are prices adjusted for inflation. Deflation is being imported into the United States from Japan, through the mechanism of the carry-trade. It appears to confirm and surpass Bernanke's worst fears. Lethargy is spreading. Businessmen decline to take the loans offered at historically low rates. Production keeps contracting; unemployment may follow with a lag. We may even see, horribile dictu, some genuinely falling prices! Yet these events could be just a smoke-screen camouflaging an incipient hyper-inflation that would wipe out the dollar for once and all." JN underlined.

As I understand Fekete, he is suggesting the approaching end of a Kondratieff long-wave cycle that began it upswing in 1947, having topped in 1977. He is suggesting a period of deflation that he says is being imported from Japan via the carry-trade. To me there is similarity in what he is saying with Ka-Poom, but probably worse than EJ theorizes.

Fekete says the $400 quadrillion derivative market represents unlimited quatities of latent demand for new bonds. Because of the carry-trade in Japanese bonds, the US interest rates will continue to fall. He suggests, "All this means deflation, even depression. Bernanke will keep stoking its fires by printing more dollars, hoping that the new money will go into commodity speculation, ending the depression. It won't. The new money will go into bond speculation, deepening the depression. That's where smart money is made. In the bond market. On the long side. This is what makes the depression feed upon itself." JN underlined

What might be the effect on gold? Fekete: "Part of that scenario is the price of gold. It will not be allowed to escape the gravity of earth, as it would do in the absence of clandestine official intervention. Although they will be able to limit the rise in the gold price, the powers-that-be will not be able to limit the rise in its volatilility. Gyrations of gold will assume galactic dimensions, increasing uncertainty in its wake. Enormous fortunes will be made -- and lost -- both by the bulls and the bears betting that "the trend is their friend"."

Question: Just how many bonars exactly are 400 quadrillion?

Regarding 400 quadrillion, I think that must be a error. About the highest number I think I may have seen is 400 Trillion with regard to the the totality of derivatives.

FESTIVUS FLOW-OF-FUNDS STOCKING STUFFERS
by Paul L. Kasriel 12/15/06

This article http://www.financialsense.com/editor...2006/1215.html seems to me to be suggesting that Fekete's opinion, if I understood it, has some support with regard to there continuing to be downward pressure on interest rates, thus, quoting Fekete, that is "where smart money is made. In the bond market. On the long side. This is what makes the depression feed upon itself."

I am far from understanding much about ecomomics, and I would never even infer otherwise. If bonds do well in deflation, i.e. rates go down, bond prices go up, is that an effect of deflation or does it play a part in causing deflation? I hope this is not a stupid question.

In sum, in the past few quarters, we have seen a sharp slowdown in household borrowing and a sharp increase in corporate equity retirement funded out of current profits. At the same time, we have seen continued strong growth in funds being advanced to the U.S. This helps explain both the rallies in the bond market and the stock market. With regard to the bond market, this also helps explain the inversion of the yield curve. The supply of credit from abroad has continued to grow rapidly as the growth in the U.S. demand for credit has slowed sharply. Econ 101 posits that when supply grows relative to demand, the price tends to fall. The price of credit is the interest rate. The relative excess supply of credit has put downward pressure on U.S. bond yields. But the Fed, by targeting the overnight cost of funds, the federal funds rate, has prevented shorter-maturity interest rates from falling in tandem with bond yields. The way the Fed prevents the funds rate from falling is by supplying fewer reserves than would otherwise be the case if short-maturity interest rates were allowed to adjust to non-Fed supply-demand credit conditions. A falling bond yield in the context of an inverted yield curve is not a sign of “easier financial conditions.” Just the opposite. This is why the spread between the Treasury bond yield and the fed funds rate is a leading indicator. A widening spread is an indication of an easier monetary policy; a narrowing spread is an indicator of a tighter monetary policy. Almost every time, including the current environment, this spread narrows to the point of turning negative, with a lag, real economic growth slows. In case you had not noticed, U.S. real economic growth has slowed.

I believe there is a lot more significance in Kasriel's article than the quotation here. If anyone cares to read it and comment on it, I look forward to their comments.

[jk]

Re: Credit inflation, Deflation: Prechter Interview

illustrating the effects of the interventions graphed, above, by bart:

http://www.minyanville.com/articles/index.php?a=11786

The Land of Credit
John Succo

Dec 14, 2006 3:30 pm


Everything looks great, but somehow you get that uneasy feeling. When this happens it is always good to check your premises.

I think we can all agree that the markets, from stocks to bonds to art work, are riding on a sea of liquidity. So let’s begin checking our premises.

First, liquidity can come from two sources: income or borrowing. Real disposable income has actually fallen over the last five years. It is no secret with a negative savings rate and gigantic trade deficit that U.S. consumers are borrowing to consume. A total credit to GDP of 3.6 times (the next highest was 2.9 in 1929 and has averaged maybe 1.5 times over the last decades) the lowest equity levels in homes ever, the highest percentage of disposable income going to service debt ever, government budget deficits of over $300 billion and a public debt figure approaching $9 trillion (not even counting the war costs of $500 billion so far not added in and forgetting about $45 trillion in unfunded liabilities from Medicare and Social Security) etc., all confirm this fact.

Few people really understand the ramifications of this or the process by which the bureaucrats in Washington accomplish the harm all this debt will eventually do by creating more of it.

A $1 billion REPO by the Fed doesn’t seem like much until you check your premise. The Fed just did a $1.3 billion dollar coupon pass, which is like a permanent REPO. The Fed calls up JP Morgan (JPM) and purchases its bonds with credit, credit created from nothing. They just tell JP Morgan, "we owe you money."

JP Morgan now has funds (credit) it can lend out. But because of margin requirements it can lend out much more than $1.3 billion. In fact it lends out about twenty times that amount. So let’s say they call up 20 regional banks and let them borrow $1 billion each. In turn, each regional bank then lends out $5 billion to various mortgage borrowers. These borrowers refinance their house and spend the extra cash while the equity in their home drops.

The original $1.3 billion of credit the Fed created yesterday will in a few days turn into $100 billion of money borrowed by consumers. In fact these numbers are born out by the Fed’s activity over the last year. The Fed’s balance sheet has grown by about $30 billion over that time, while total credit market instruments outstanding grew by $3.5 trillion.

But that is just traditional pyramiding. Today we have the derivatives markets where JP Morgan can take some of that credit and lever it 100 to one by underwriting derivatives (I don’t mean to pick on JP Morgan, although it is by far the largest derivatives dealer in the world; others like AIG or other large Broker Dealers are doing the same). So of the $1.3 billion, let’s say JP Morgan keeps $300 million and then sells options to customers. It uses that credit as capital to support the trade; the trade itself is $150 billion in notional contingent liabilities. The notional amount of derivatives over the same period of time has grown by a scary $88 trillion. Derivatives are lending on steroids.

All this liquidity is driving nominal asset prices higher and higher. And ironically they must in order to keep the borrowing bubble bubbling.

But risk is increasing exponentially and threatens our very country’s solvency. The only reason things seem great is because other central banks around the world are willing to keep creating credit themselves and lending it to us. Todd calls this the elasticity of debt: how much debt will the market accept before it can’t take anymore. I don’t know the answer to that, but when it occurs there will be no escape.

We are really, really good at creating credit. Are we good at paying it back?

[Jim Nickerson]

Re: Credit inflation, Deflation: Prechter Interview

12/15/06 jk also put up http://www.itulip.com/forums/showthr...=5329#post5329 post #1 out of http://www.minyanville.com/articles/index.php?a=11788

Part of his post:

"2. Deflation Is Good... Until it Isn't
What do you call a persistent decline in an aggregate indicator of price movements? Oh yeah, deflation.

• So why are stocks reacting positively to news that deflation may be upon us?
• Because right now the consensus (at least as shown by the increase in stock prices) is that this is a benign bout of supply-driven deflation, not the collapse in aggregate demand that Fed policymakers fear so deeply.
• Structural deflation is not, in and of itself, something the market fears, and that is one reason the Fed has implemented policy in a manner that most market participants find difficult to understand.
• In a true bout of secular inflation the actions of the U.S. central bank, ratcheting up the Fed Funds rate over time even as credit expands and bond yields "fail to respond" - the Greenspan conundrum - would indeed seem impossible to understand.
• But, as we have argued, this is no true bout of secular inflation we have experienced. Rather, it was a bout of cyclical inflation within a structural deflationary environment.
• The disconnect now, the view least shared by market participants, is that the structural deflationary environment we are in is poised to suffer from a potential collapse in aggregate demand.
• Remember, Japan's bout with deflation was viewed as benign deflation for many years.
• Be that as it may, the most important thing to take away from the movement of stock prices is not that the stock market is saying, "Hey, there is no deflation." It's that stocks are saying, "Hey, there may be deflation, but it's still ok."
• Unfortunately, by the time good deflation turns bad, it will be too late. And stock prices, all asset prices, will move accordingly."

[Finster]

Re: Credit inflation, Deflation: Prechter Interview

Precisely, oh Manor Maven... the Fed doth speaketh with forked tongue.

Cool. Under Greenie, it just spoke in tongues ...

:eek:

I wonder, however, what the bigger picture is on the Fed vis-a-vis the yield curve. Traditionally, the Fed does its monetary manipulation at the short end. Has it now added long rates to its policy arsenal?

In at least one sense it has; by being more predictable as a matter of policy, it's exerted downward pressure on long rates. Speculators feel fairly safe buying longer dated paper knowing there is a very low probability short rates will not be above X in six to eighteen months. Perhaps the headline should read "Greenspan Creates Own Conundrum".

But aside from that, are there any other mechanisms the Fed might be employing to work the whole yield curve?

[bart]

Re: Credit inflation, Deflation: Prechter Interview

illustrating the effects of the interventions graphed, above, by bart:

Nice extract, jk. I can only quibble with the various multipliers he used on the general area of permanent repos, also called coupon passes.

But I can add more, from the TOMO and TIO areas. They're very similar, except they're both short term money injections/loans. When the Fed did the $1.3 billion perm repo last week, on the same day they also added about $16 billion of temporary repurchase agreements (TOMO)- $9 billion in a 14 day operation and another $7.5 billion on a 4 day operation.
The US Treasury also added $18 billion, plus another $10 billion on Friday.

Here's the current chart showing balances and a longer term picture too:







The short term chart is easier to use, and the longer term chart has arrows showing the start and end of major TIO & TOMO operations... and what the S&P 500 did.

[bart]

Re: Credit inflation, Deflation: Prechter Interview

I wonder, however, what the bigger picture is on the Fed vis-a-vis the yield curve. Traditionally, the Fed does its monetary manipulation at the short end. Has it now added long rates to its policy arsenal?

In at least one sense it has; by being more predictable as a matter of policy, it's exerted downward pressure on long rates. Speculators feel fairly safe buying longer dated paper knowing there is a very low probability short rates will not be above X in six to eighteen months. Perhaps the headline should read "Greenspan Creates Own Conundrum".

But aside from that, are there any other mechanisms the Fed might be employing to work the whole yield curve?

Even "Bubbles" Greenspan is subject to the law of unintended consequences in conundrum-ville?

Funny you should ask that now with the yield curve getting less negative lately too. ;)

There are obviously possibilities of effects being created via POMOs & TOMOs, and the NY Fed trading desk does get their marching orders directly from the FOMC... but all of that is semi-educated conjecture, since nothing is published that would allow further analysis.

An other mechanism that can be used is Securities Lending and here's a chart you've seen before. It still does show a very unmistakable correlation between the 10 year rate and SecLend changes... and also (with the light green line) shows a possible start of a push up on the 10 year. Basically, I maintain that they've been fiddling with it for many years.





Fed SecLend home page

[Finster]

Re: Credit inflation, Deflation: Prechter Interview

Even "Bubbles" Greenspan is subject to the law of unintended consequences in conundrum-ville?

Funny you should ask that now with the yield curve getting less negative lately too. ;)

There are obviously possibilities of effects being created via POMOs & TOMOs, and the NY Fed trading desk does get their marching orders directly from the FOMC... but all of that is semi-educated conjecture, since nothing is published that would allow further analysis.

An other mechanism that can be used is Securities Lending and here's a chart you've seen before. It still does show a very unmistakable correlation between the 10 year rate and SecLend changes... and also (with the light green line) shows a possible start of a push up on the 10 year. Basically, I maintain that they've been fiddling with it for many years.





Fed SecLend home page

Okay. But we don't have any further breakdown of what securities are being lent by who to whom? Am I correct to surmise that if they included five-ten-thirty year notes and bonds, we'd have the proverbial smoking gun ...

[bart]

Re: Credit inflation, Deflation: Prechter Interview

Okay. But we don't have any further breakdown of what securities are being lent by who to whom? Am I correct to surmise that if they included five-ten-thirty year notes and bonds, we'd have the proverbial smoking gun ...

Assuming you did visit that SecLend page and that level of detail isn't enough, there's nothing else that I know of that's publicly available except the data on the POMO page. But I'm not the bond maven, maybe you can make some better sense out of it?

[Jim Nickerson]

Re: Credit inflation, Deflation: Prechter Interview

Richard Russell, 12/15/06 https://ww2.dowtheoryletters.com/

Russell's CONCLUSION "I can't prove it at this time, but I suspect that housing is deteriorating and is in worse shape than is being announced. If so, this would be highly deflationary and would account for the precious metals, copper and the CRB all being down today. The Fed continues to verbally worry about inflation -- I wonder if they should be worrying about deflation instead?"

Using http://stockcharts.com/charts/gallery.html?%24hgx in the weekly graph, it can be seen that the Philadelphia Housing Index has regained 53.2 points off its July 06 low of 186.62, an upward move of 28.48%. That low was 106.84 points off the July 05 high of 293.66, a loss of 36.38%. Thus, the HGX has retraced 50% of its losses. Since the variably dated exact closing lows of this summer, the SPX is up 10.59%, DJI up 16.25%, Nasdaq up 21.62%, NDX up 24.57%, and RUT up 17.97% (according to my spreadsheet). So, if my numbers are correct, the Housing Index has outperformed all the major equity indices. Who guessed that would be the case? So far, the housing index to me is not saying housing seems to be dead. It could presently be making a double top as suggested by its RSI and MACD in the daily chart, or it might have just be taking a rest for the past six or seven days and is about to continue up. The weekly chart of the HGX suggests the run-up may have a while to go yet, that is looking at the RSI and MACD.

[Finster]

Re: Credit inflation, Deflation: Prechter Interview

Assuming you did visit that SecLend page and that level of detail isn't enough, there's nothing else that I know of that's publicly available except the data on the POMO page. But I'm not the bond maven, maybe you can make some better sense out of it?

It's not a lack of detail that's baffling, rather it's the big picture. There do appear to be some longer dated Treasuries involved, but is it enough to move the Treasury market? I don't know what the total outstanding is, but it's enormous. Then there's the question of where these securities are coming from and where they're going. What is the Fed trying to do? Maybe it doesn't even have anything to do with trying to move long rates; maybe there's some other objective.

The language used there is opaque, with verbs in the passive voice. For example, it opens by saying that "Securities loans are awarded to primary dealers ...", but does not say who is doing the "awarding". Moreover, I have only the vaguest notion what a "primary dealer" is. And if such a "primary dealer" wants Treasuries, why not buy them from the Treasury? If there's some kind of supply shortage while we're running multi-hundred-billion-dollar deficits, it would be rather remarkable, no? Then if the Treasuries are merely being lent, for how long are they being lent? And whatever effect the Fed might have in mind when lending them, would it not be reversed when they are returned?

[bart]

Re: Credit inflation, Deflation: Prechter Interview

It's not a lack of detail that's baffling, rather it's the big picture. There do appear to be some longer dated Treasuries involved, but is it enough to move the Treasury market? I don't know what the total outstanding is, but it's enormous. Then there's the question of where these securities are coming from and where they're going. What is the Fed trying to do? Maybe it doesn't even have anything to do with trying to move long rates; maybe there's some other objective.

The language used there is opaque, with verbs in the passive voice. For example, it opens by saying that "Securities loans are awarded to primary dealers ...", but does not say who is doing the "awarding". Moreover, I have only the vaguest notion what a "primary dealer" is. And if such a "primary dealer" wants Treasuries, why not buy them from the Treasury? If there's some kind of supply shortage while we're running multi-hundred-billion-dollar deficits, it would be rather remarkable, no? Then if the Treasuries are merely being lent, for how long are they being lent? And whatever effect the Fed might have in mind when lending them, would it not be reversed when they are returned?

The Fed trades somewhere around $100 billion worth of bonds every day if memory serves from their site... and I just plain don't know if the SecLend and POMO data is a decent sample of their direction, let alone not having much of a bond background.

Part of the purpose of the various Fed actions is to support the Fed Funds rate where it is, and holding it within a small range. Per my SecLend chart, my opinion is that they also "manage" the 10 year note rate and likely other maturities too.


Isn't Fed speak just awesome? :mad: Doesn't it make you yearn for the relative clarity of Greenspan? ;)

I can answer some of your questions but whether the answers help or not, I have no clue.

The primary dealers are the 22 outfits mentioned here, and they are just that - the first level of banking outfits closest to the Fed, and receive or provide the dollars directly from or to the Fed. The deal with them includes a agreement that boils down to anything being offered *must* be bought or sold by them. They're basically the conduit into the banking system for the Fed and its purposes.


The FOMC, via the NY Fed trading desk, is the one doing the awarding.

The lending period, as far as I can tell, is just one day on SecLend but permanent on POMOs. As you can easily imagine though, at the scale at which the Fed and NY trading desk operate, one day operations are plenty to move or affect markets. We do know that supply & demand does operate at any level too.

Any clarification you can add with your bond knowledge is more than welcome, and I'll answer any more questions you have if I can.