The Fed Have No Clue

The Fed Have No Clue

In case you’re wondering if the Fed knows what they are doing, I suggest you take a look at their forecasting record from 2007 to 2015.

Each year, the Fed projects economic growth on a one-year forward basis.

From the 2008 crisis until seven years later, those forecasts were wrong by orders of magnitude.

They were not off by a little (that’s OK), they were off by a lot.

Sometimes they even got the direction wrong. For example, forecasting growth in 2008 when we actually experienced the worst recession since the Great Depression.

The Fed kept rates too low for too long from 2001 to 2005 (which led to the housing fiasco) and kept them too low for too long again from 2008 to 2015, when they should have started to normalise no later than 2010. The list goes on.

Unfortunately, Fed incompetence seems to be cumulative…

Misreading the economy

The Fed cut interest rates for the second time recently on September 18.

As CBNC noted last week, Fed Chair Jay Powell insists that this second rate cut is not part of a ‘sequence’ based on current data, writing:

Federal Reserve Chairman Jerome Powell pledged that the central bank would engage in a “sequence” of interest rate cuts if conditions warrant, but he doesn’t see that as necessary now.

Speaking after the Fed lowered its benchmark interest rate by 25 basis points, Powell said data will dictate future moves, with he and his colleagues ready to act to keep the decadelong expansion going.

This means he might stand pat or possibly even raise rates at a future meeting depending on growth and inflation data.

But Powell is out of touch.

The Fed raised rates too far and too fast in 2018 and nearly caused a recession. The two recent rate cuts are an effort to undo that damage.

Growth in 2019 has slumped from 3.1% in the first quarter to 2.9% in the second quarter, to 1.9% (estimated) for the third quarter.

That slowdown is the lagged effect from rate hikes (and balance sheet reductions) in 2017 and 2018.

If the Fed hikes rates now (or even pauses) they will more or less guarantee the recession they just barely missed.

You should expect the Fed to cut rates more and gradually work their way back to zero over the coming year.

This is what the economy is telling us even if Jay Powell is the last to know.

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Swapping currencies via messages?

I’ve written for years about efforts underway by Russia, China and other US adversaries to implement alternatives to the US dollar payment system.

Today, the US dollar represents 60% of global reserves, 80% of global payments, and almost 100% of global energy purchases.

That kind of US dollar dominance has aggravated friends and foes alike since the 1960s.

Lately, the annoyance is even worse because the US has weaponised the dollar to pursue geopolitical goals over and above financial goals.

The list of countries suffering under US financial sanctions is long and getting longer.

Among the most prominent targets are Russia (due to Crimea and Ukraine), China (due to the trade wars), Iran (due to its uranium enrichment program and support for terrorism), North Korea (due to its ballistic missile program), and many others including Syria and Venezuela.

What all of these sanctions targets have in common is that the US restricts access to US dollar payments channels.

In the case of Iran, the sanctions go even further to include the denial of access to SWIFT, the international payments system, which includes euros, yen, sterling and other reserve currencies in its facilities.

While most of the targeted countries have been working on alternatives (including a possible gold-backed cryptocurrency to be jointly launched by China and Russia), actual implementation has been slow in coming.

That may all be about to change.

Russia and Iran have announced a new payments channel that avoids both SWIFT and the US payments system. According to the Financial Tribune:

Governor of the Central Bank of Iran says Iran and Russia have connected their financial messaging services to handle two-way banking transactions. […]

The initiative is to be used as an alternative to payments through SWIFT (Society for Worldwide Interbank Financial Telecommunication) for protection against third country sanctions.

The new system involves secure financial message traffic between the two participants, with a possible expansion to include Turkey and others in the near future.

This still begs the question as to which currency will be used, since Iran is mostly denied access to dollars.

But payments could include the Russian ruble, or gold that could be converted to dollars through the Russian banking system and held for the account of Iran in veiled custodial accounts.

This is a modest step, but it is a beginning with far more pointed attacks on US dollar hegemony yet to come.

All the best,

Jim Rickards Signature

Jim Rickards,
Strategist, The Daily Reckoning Australia