Fed Mountaineering

The US Federal Reserve has stopped so-called quantitative easing, namely the buying of US Treasuries and mortgage bonds. But it has not yet allowed the maturing assets to run off its balance sheet. Instead it has reinvested funds to keep the outstanding sum of assets pretty stable since 2014, at around $4.2 trillion. As recently as the end of March 2017, the Fed still had $2,464bn of Treasury notes and bonds plus $1,769bn of mortgage-backed securities on its books, totalling $4,233bn. In 2017, the Fed is likely to begin reducing this mountain, while trying to avoid an avalanche.

The following chart shows how the mountain grew after the 2007-08 crisis struck:

A Fed study in 2012 estimated that for every $300bn of Treasury bond purchases, yields fell by some 30 basis points. This was believed to be due to a 'stock effect' that lowered the supply of bonds in the market, raised their price and so reduced yields. This is only one influence on the market, but it is evident that there will be upward pressure on yields once the Fed starts selling off its accumulated stock.

The potential impact is widespread. It will run from higher US government borrowing costs and higher mortgage rates to higher corporate bond yields (since these have the government yield as a baseline). Interest rates in international markets will also be influenced by the level of US rates. This is especially so for the more vulnerable 'emerging market' economies. All of these have huge levels of debt that are likely to become more expensive to service.* Much of the latter's debt is also US dollar-denominated, which puts them at further risk if their currency values fall.

Tony Norfield, 6 April 2017

Note: * See the reviews of debt trends in a range of countries in the September 2016 articles on this blog.

Moribund Capitalism

The credit market works like this: one person's debt to another is the other person's asset. As long as the debtor can pay, then the creditor feels fine, if a little anxious when the weather changes. Now consider what happens in the wake of a credit-fuelled economic boom and its subsequent collapse. What if the mountain of debt is also a deep well of crap? That is the situation today.

This is the basic reason behind the never-ending policy from the world economy's major central banks to keep interest rates at close to zero. Every time there is a suggestion of raising interest rates (some time in the current century ...) from zero point nothing percent to zero point something, financial markets threaten to implode. Despite data in some countries recording improved profitability of capitalist companies, this is the more tangible reality of capitalist prospects.

News has not been good, in any case: from falling equity markets, to ever more desperate measures from governments and central banks, especially in Europe and the US. Below is a striking picture given for the US, by the Federal Reserve Bank of St Louis.

The chart shows the asset holdings of the US central bank, the Federal Reserve, since 2007 (the annotations are mine). In the initial phase of the crisis, the Fed boosted its lending to financial companies dramatically and did a series of rescue operations. These have now diminished to negligible proportions, as what remained of the US financial system was put back on its feet by zero interest rates and financial bail outs. However, there are two measures that have not been reversed. In fact, they have increased, even though the crisis was meant to be over: an increase in Fed holdings of US Treasury (government) securities, now totalling $2,457bn (data up to 22 October 2014), and mortgage backed securities of $1,417bn. Consider these figures against the US GDP in 2013 of $16,800bn, and also remember that the latter is just private debt to the state, not private debt to others, which is even bigger.

Many American citizens paying their mortgage interest will no doubt be somewhat surprised to learn that the recipient is actually the US government. Still, you can't keep an innovative, private capitalist system down, can you. As for the US Treasury paying interest on its bonds and notes to the US Fed, well they manage to find a way to get the money back again. The wonders of finance!

These numbers show more fully than monthly changes in business activity what is really going on, and the intractable nature of the crisis that imperialist countries face. Unfortunately, I have no such telling pictures of the European Central Bank's dodgy assets which, in any case, will soon be boosted by its new purchases of 'covered bonds'; nor of the Bank of England's activities. The Bank of England has up to now had a more conservative approach of hardly buying anything other than UK government securities in the secondary markets in its 'quantitative easing' (it has £375bn of gilts on this book and nothing else). However, the Bank of England has extended what it will accept as collateral, with the relevant 'haircuts', and also increased the ways in which it will offer 'liquidity' to the financial system in a crisis.

In summary, Lenin's description of imperialism as 'moribund capitalism' comes to mind. The astonishing application of extraordinary measures can only produce such mediocre results, ones that leave many millions in crisis.

Tony Norfield, 26 October 2014