At the current pace of rate hikes, based on projections for one-year Treasury yields, the U.S. nominal yield curve would invert in late 2018 or early 2019.
Bullard wants to prevent that from happening. He proposes two ideas.
1) If longer-term nominal interest rates begin to rise in tandem with the policy rate or
2) if the FOMC does not raise the policy rate as aggressively as suggested by the September 2018 FOMC Summary of Economic Projections(SEP).
Point two is in reference to the "Dot Plot".
Bullard rejects point one due to the fact that the 10-year yield has been "roughly constant since 2014. Consequently, it seems unlikely that longer-term nominal interest rates will begin to rise in tandem with the Fed’s policy rate."
Some argue that this time is different when it comes to the yield curve. I recall similar comments relative to the yield curve inversions in the early 2000s and the mid-2000s—both of which were followed by recessions. To be sure, yield curve inversion could be driven by factors that are unrelated to future macroeconomic performance.
Critical Thinking Not
- For starters, a yield curve inversion is not a requirement for a recession. One look at Japan or Italy proves as much.
- Second, Bullard is oblivious to bubbles. Holding rates too low to long is a sure-fire way to create bubbles. And we are in one heck of a set of bubbles right now that not a single person at the Fed can see.
- Third, Fed policy ought not be to prevent inversions but rather to prevent bubbles.
Point number three presumes there should be a Fed in the first place, but clearly there shouldn't.
Fed Uncertainty Principle
My "Fed Uncertainty Principle", written April 3, 2008, accurately predicted this state of affairs before the housing bubble and Lehman imploded.
Fed Uncertainty Basis Principle: The fed, by its very existence, has completely distorted the market via self-reinforcing observer/participant feedback loops. Thus, it is fatally flawed logic to suggest the Fed is simply following the market, therefore the market is to blame for the Fed’s actions. There would not be a Fed in a free market, and by implication, there would not be observer/participant feedback loops either.
Corollary Number One: The Fed has no idea where interest rates should be. Only a free market does. The Fed will be disingenuous about what it knows (nothing of use) and doesn’t know (much more than it wants to admit), particularly in times of economic stress.
Corollary Number Two: The government/quasi-government body most responsible for creating this mess (the Fed), will attempt a big power grab, purportedly to fix whatever problems it creates. The bigger the mess it creates, the more power it will attempt to grab. Over time this leads to dangerously concentrated power into the hands of those who have already proven they do not know what they are doing.
Corollary Number Three: Don’t expect the Fed to learn from past mistakes. Instead, expect the Fed to repeat them with bigger and bigger doses of exactly what created the initial problem.
Corollary Number Four: The Fed simply does not care whether its actions are illegal or not. The Fed is operating under the principle that it’s easier to get forgiveness than permission. And forgiveness is just another means to the desired power grab it is seeking.
No one at the Fed has ever spotted a bubble in real time, nor can they spot conditions that blow bubbles.
The Fed has been blowing bubbles of increasing amplitude since 1998. We had a dot-com bubble followed by a housing bubble and then an everything bubble.
Junk Bonds and Zombies
Junk bond issuance is at record high with increasingly easy terms and record low yields.
A record number of companies are zombies, unable to finance debt out of profits.
Not the Only Clueless Clown
Sadly, James Bullard is not the only clueless clown.
It did not occur to Yellen or Bullard or anyone else currently on the Fed that booms inevitably lead to busts.
Instead of "making up for busts" the Fed ought to prevent unwarranted booms.
UN Report Cites Central Bank Liquidity Bubbles, Loose Money, Debt Expansion
Earlier today I commented: UN Report Cites Central Bank Liquidity Bubbles, Loose Money, Debt Expansion
The UN report was concerned about an avalanche of debt and excess liquidity among other concerns, all of which were correct.
The report failed to blame central banks, governments, and fractional reserve lending. Instead, the UN blasted "hyperglobalization".
Thus, the UN blamed a symptom, not a cause. Bullard did the same thing.
Mike “Mish” Shedlock