Friday September 3, 2010

US Change in Non-Farm Payrolls M/M (Aug) Exp. -105K (Prev. -131K, June -221K)

Morgan Stanley -75K                                                                                          Barclays Capital -70K
JP Morgan -110K                                                                                               UBS -70K
Goldman Sachs -125K                                                                                       Deutsche Bank -65K
Bank of America -100K                                                                                        HSBC Markets -150K

The consensus is for a third consecutive negative print in today's report due to an unwinding of census workers combined with loss of government jobs. The private payrolls number will also come under close scrutiny as it will help gauge the level of private sector confidence in an already fragile recovery.

Taking a look at the numbers:

Recent economic data has been predominantly feeble, and has consequently led to lingering fears of a double-dip recession. The weekly claims data remains elevated and spiked above the '500 mark' for the first time since November 2009, whilst the 4-week moving average remains at alarming levels. Furthermore, the latest ADP employment report disappointed after it revealed that U.S. private-sector employment fell 10,000 thus breaking a 6-month roll of gains. The ADP report was accompanied with downbeat comments from Macroeconomic Advisers chairman Prakken, who said that widespread hiring at U.S. companies had not begun as businesses remain worried about uncertainty over the future of the economy. Prakken also added his own negative prediction for Friday's report which he notes will be due to an unwinding of census jobs.

On the upside, the latest ISM manufacturing report's employment constituent increased to its highest level since December 1983 whilst U.S consumer confidence also beat street estimates. In addition, figures from Challenger showed that lay-offs fell to their lowest level since June 2000. Moreover, the continuing claims have fallen compared to the previous month.

Recent commentary:

The Federal Reserve and the U.S. government face a growing dilemma of a weak labour market that is yet to show concrete signs of a recovery. In his recent speech from Jackson Hole, Fed's Bernanke noted that joblessness remains high and incoming data on the labour market has remained disappointing. Furthermore, the minutes from the last FOMC meeting revealed that Fed officials generally saw employment likely to fall short of levels consistent with the dual mandate for longer than had been anticipated, and that there were few signs that firms felt the need to add employees.

President Obama declared fixing the economy his "central mission" and with looming November mid-term elections combined with fading popularity, the Administration will be eager for signs their policy is proving to be effective.


Unemployment Rate M/M (Aug) Exp. 9.6% (Prev. 9.5%, June 9.5%)

The unemployment rate is expected to edge higher due to a growing number of people seeking employment resulting from layoffs of census and government workers. An up tick would not be to surprising given the recent data and the majority of participants expect this to be the likely outcome.

 

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Thursday September 2, 2010

Posted by:  George Cavaligos (MF Global)

The first sign of an improving job market? News Release
Staffing Employment Posts Dramatic Growth in Second Quarter
Results of Second Quarter Employment and Sales Survey

U.S. staffing companies reported strong growth in the number of temporary workers employed in the second quarter of this year, compared with the same period last year, according to survey data released by the American Staffing Association.
America's staffing companies employed an average of 2.4 million temporary and contract workers per day from April through June. That's an increase of 23.3% from the same quarter last year and an improvement of 18.0% over staffing employment reported for first quarter of 2010.
"Even as the pace of economic growth slowed, staffing firms added 360,000 new jobs during the second quarter," says ASA president and chief executive officer Richard Wahlquist. "This is an encouraging sign that there is still some juice left in this recovery and that businesses across a wide spectrum of sectors continue to experience a slow but sustained uptick in demand for their products and services."
Staffing sales in the second quarter of this year totaled $16.9 billion, according to ASA survey results-a 32.8% increase over the same period last year. This is the largest year-to-year percentage increase recorded for a single quarter since ASA began tracking industry sales on a quarterly basis in 1992.

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Today ECB's Trichet is expected to say that rates remain appropriate at 1.00% and the inflation outlook remains well anchored. As usual with the ECB, the press conference will be used by the journalists and analysts to debate the next policy move by the ECB. During the press conference Trichet is again expected to be questioned on the future of the EU banking system, the apparent two speed recovery and potential exit strategies.

Apparently the future of the Euro is no longer in jeopardy:

Given all the criticism the Eurozone has been under this year, today Trichet is expected to use the recent macro economic data to reiterate that the future of the Eurozone is not under threat and that policy action has been appropriate. Also, despite the austerity measures which were introduced by a number of member states, the recovery is not expected to falter. Trichet is also likely to reiterate that the EUR 750bln package available for bailouts is more than enough to ensure that a sovereign default does not happen.

Not so long ago the Uber-Hawk of the ECB, Axel Weber surprised market participants by saying that the ECB should keep unlimited lending through to the year-end. Therefore it will be no surprise if today at the ECB's press conference, Trichet announces that the unlimited liquidity of 1-week, 1-month and 3-month operations are all extended through to the year-end. It is worth remembering that Weber is expected to replace Trichet as ECB President, and as such he may be forced to tone down his hawkishness to boost his appeal. Nevertheless, the above comments are a stark contrast to his usual rhetoric and one must question whether he feels that banking stresses that were evident in spring may resurface as the global slowdown catches up with the Eurozone in the coming months. Still, unlike the Fed, the ECB is expected to continue to shrink its balance sheet but the pace of it will largely depend on the banking system of the peripheral Eurozone. Especially since both Ireland and Greece are essentially on a life support machine which is provided by the central bank. As such, further easing depends on the health of the banking system of peripheral Europe and especially Spain which asked for a record EUR 130bln in July and accounted for 29% of total borrowing from the central bank.

Trichet is also likely to remind market participants that EUR 225bln of ECB funding will expire on September 30 and even though a 3-month operation will be conducted on the 29th, he expects that not all will be rolled over and that the ECB will be able to withdraw some of the liquidity.

Macro-economic projections: Ignorance to a two tier growth pattern continues:

Back in June, GDP growth was projected to be between 0.7% and 1.3% in 2010 and between 0.2% and 2.2% in 2011. Today Trichet is expected to provide upward revision for both 2010 and 2011 (citing stronger than expected export growth by Germany). While inflation is projected to remain moderate over the projection horizon, being dampened by the slack prevailing in the euro area. The average rate of overall HICP inflation was projected to be between 1.4% and 1.6% in 2010 and between 1.0% and 2.2% in 2011.

In terms of market reaction to the press conference, given the upcoming non-farm payrolls data on Friday, today's weekly jobless claims are of particular importance and may prove to be a more market moving event.

 

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Wednesday September 1, 2010

INFLATION ON THE SHELVES

The Mogambo Guru from Asia Times Online

Apparently, he has to write a letter about it, probably something along the lines of "Dear British taxpayer, Our stupidity and incompetence have caused prices to rise more than 3% in a year, which means you are all doomed unless we government lowlife halfwits stop being incompetent, especially as regards monetary policy in general and creating far too much new money in particular, which we won't. Terribly sorry, old chap. Respectfully yours, Mervyn."

Of course, this cruel punishment of having to write a letter is harsher than the justice meted out in the United States, as New Jersey, and everybody connected with its pension disgrace, lied, hid relevant information and data, and is, according to the Securities and Exchange Commission being charged with the fraud and corruptions of "withholding and misrepresenting pertinent information about its financial situation" so that municipal bond sales could continue.

Actually, in the UK, the consumer price index (CPI) rose at an annual rate of a scary 3.1% in July, which was only down from a slightly-scarier 3.2% rise in prices in June.

And inflation in something called the retail price index (RPI) came in at a terrifying 4.8% annual rate of increase! Yikes!

READ MORE...

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BIS Triennial Survey of FX and OTC Interest Rate Derivatives Markets in April 2010

In April this year, central banks and monetary authorities in 53 countries, including the United Kingdom, conducted the latest triennial survey of turnover in the markets for foreign exchange (spot, forwards, foreign exchange swaps, currency swaps and options) and over-the-counter (OTC) interest rate derivatives. The surveys are co-ordinated on a global basis by the Bank for International Settlements (BIS), with the aim of obtaining comprehensive and internationally consistent information on the size and structure of the corresponding global markets. The Bank of England conducted the UK survey, which covers the business of leading institutions located within the United Kingdom in these markets.

READ MORE...

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PROBE CHIEF to ISSUE WALL STREET DATA

Wall Street groups face the disclosure of internal documents that could provide a treasure trove for would-be litigants and a headache for banks, regulators and their lawyers.

Phil Angelides, Financial Crisis Inquiry Commission chairman said he planned to publish a large amount of background data when he delivered the commission's final report in December to allow further scrutiny by academics and journalists. "It's not just banks, I might say that there are a lot of government agencies that want to keep all their documents secret and my view is if they add to the knowledge of the crisis I lean towards disclosure," he said.

READ MORE...

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Tuesday August 31, 2010

George Cavaligos posted...

To meet the volcker rule???? Not becuz they are short tons of precious
metals....???



JPMorgan Said to Shut Proprietary Trading to Meet Volcker Rule
2010-08-31 18:57:23.654 GMT


By Dawn Kopecki and Chanyaporn Chanjaroen
Aug. 31 (Bloomberg) -- JPMorgan Chase & Co., the second-
largest U.S. lender by assets, told traders who bet on
commodities for the firm's account that their unit will be
closed as the company begins to shut down all its proprietary
trading, according to a person briefed on the matter.
The bank eventually will end all proprietary trading to
comply with new curbs on investment banks, said the person, who
asked not to be identified because JPMorgan's decision isn't
public. The New York-based bank will shut proprietary trading in
fixed-income and equities later, the person said.
Closing the prop trading desk for commodities affects fewer
than 20 traders, including one in the U.S. and the rest in the
U.K., the person said. The unit is based in London, and traders
there were given notice on Aug. 27 that their jobs may be in
jeopardy as required by U.K. law, according to the person.
Congress passed curbs on financial firms this year designed
to prevent a recurrence of the 2008 credit crisis, which almost
caused the banking system to collapse. Proprietary trading
involves transactions made on behalf of the bank rather than its
customers. The curbs on proprietary trading are known as the
Volcker rule, named after former Federal Reserve Chairman Paul
Volcker, who campaigned for limits on risk-taking by lenders.
Traders will be given a chance to apply for jobs elsewhere
in the company, according to the person. JPMorgan spokeswoman
Kimberly Weinrick declined to comment.

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EDZ11 Hourly Chart

The edz1 broke below its longer term bull trend line last week as Libor worries prompted a long liquidation. The rally since then has taken the market back up to the underside of the broken long term bull trend line and it looks like we may be entering a more drawn out corrective phase. We like buying the short dec 9900-9875 put spread 3.5-4.5 right now with at 9918 a retest of the shorter term support line around 9905-9907 could be produced by any stronger than expected economic data over the next couple days. This looks like a good risk / reward hedge to us.

Gundlach Cuts Treasuries as Yields Begin 'Bottoming Process'
2010-08-31 14:09:37.985 GMT


By Liz Capo McCormick
Aug. 31 (Bloomberg) -- Jeffrey Gundlach, who predicted in
June that the 10-year Treasury yield would fall to 2.5 percent,
reduced DoubleLine Capital LLC's holdings of U.S. government
debt after the security failed to set a record low level.
Gundlach, who founded DoubleLine in December and previously
co-managed the top-ranked TCW Total Return Bond Fund, last week
cut his Treasury holdings to a "small underweight" from
"overweight" as the 10-year yield failed to mirror a breach to
a record low by the two-year note and a near record by the five-
year security this month.
This "divergence in behavior across the yield curve is
very significant," said Gundlach, who oversees $4.8 billion in
assets in Los Angles as chief executive officer of DoubleLine.
"So while the fundamentals for low rates remain compelling, the
message of the market action suggests that much of these now
widely recognized fundamentals are reflected in Treasury bond
prices."
Yields on 10-year notes were 3.12 percent when Gundlach
made his prediction on June 23 during a speech at a Morningstar
Inc. conference in Chicago. The yield touched a 19-month low of
2.4158 percent on Aug. 25. Ten-year note yields, which fell 5
basis points today to 2.48 percent, reached a record low of 2.04
percent on Dec. 18, 2008.
The notes' prices tumbled the most since June 2009 on Aug.
27 after Federal Reserve Chairman Ben S. Bernanke said the
central bank will provide additional stimulus as needed during
opening remarks to central banks at a symposium in Jackson Hole,
Wyoming. The two-year note yield touched a record low of 0.4542
percent on Aug. 24.

Corporate Bonds

"This is a long-term bottoming process, which could very
well take several weeks or even a few months more to play out,"
Gundlach said in an interview. "We moved the proceeds from the
Treasury sales into a mix of corporate bonds, including our
first allocation to below investment grade corporate bonds since
the launch of the Core Fixed Income Fund on June 1," which
invests in different sectors of the global fixed income markets.
The fund is up 5 percent since its inception through Aug. 27, he
said.
The five-year Treasury note yield touched a 20-month low on
Aug. 25 of 1.2775 percent, just 9 basis points shy of its record
low of 1.1852 percent, reached on Dec. 17, 2008.
An "underweight" position in Treasuries means that a firm
owns a smaller percentage of the securities in its portfolios as
is contained in benchmark indexes used to measure performance.
"Overweight" means the firm owns a greater percentage.
Gundlach, 50, co-managed the TCW Total Return Bond Fund with
Philip Barach. The fund gained an average of 7.5 percent
annually in the five years ended Dec. 4, compared with 7 percent
by the Total Return run by Bill Gross of Newport Beach,
California-based Pacific Investment Management Co., the world's
largest bond fund at $239 billion.

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FOMC AUGUST MINUTES PREVIEW

Today's release of the minutes from the latest FOMC meeting where the Fed members voted to reinvest maturing MBS into longer-term Treasuries is unlikely to reveal any new information for market participants to digest. That is because, last week investors had the pleasure of reading a WSJ article which indicated than seven members at the August 10th FOMC meeting voiced reservations about the decision to reinvest repayments of principal on agency debt and agency-sponsored mortgage-backed securities now being held by the central bank. In addition to that, last Friday, in his Jackson Hole speech, Bernanke remained adamant that current economic weakness does not automatically imply weaker growth prospects for 2011. However he also indicated that the Fed is prepared to ease monetary policy should conditions deteriorate further and leaned towards more Treasury purchases as a preferred tool.

In terms of economic assessment, the minutes will likely reveal members have become increasingly wary of a jobless recovery and that the healing process of the labour market has slowed down in recent months. In particular, elevated economic and regulatory uncertainty, both domestically and abroad are prompting companies to remain reluctant to add permanent employees.

In relation to the recent decline in housing market, minutes will likely reveal that members expect the activity to remain depressed, especially since the homebuyers' tax credit was allowed to expire. In addition, a large overhang of foreclosed and vacant homes is also expected to slowdown potential recovery in the future.

The favorite topic among investors recently is the 'Japanification' of the US. However at present even though inflation is below what some members deem as favorable, a scenario whereby the US falls into a deflationary trap is seen as highly improbable. Still, the minutes will show that the Fed remains vigilant and will be proactive in addressing such concerns should risks rise in the near-future.

Finally, Fed's Hoeing will yet again be the sole dissident on the Fed's promise to keep interest rates "at exceptionally low levels" for "an extended period of time" and put a stop from guaranteeing Wall Street a zero or a near zero interest rate environment.

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NAKEDTRADER COMMENTARY

Monday August 30, 2010

Last week Mr. Bernanke made an important speech at Jackson Hole, one of the five-star hideaways where important people have to go in order to talk about important matters and generally solve the world's problems.  These junkets probably cost the taxpayer lots of money, but you can easily see their value by imagining the mess we would all be in if they didn't do them.  Anyway, he is reported to have singlehandedly brought about a triple digit rise in the Dow by explaining to a rapt audience that he doesn't think the US economy will sink back into negative growth, and if it does he has ways of dealing with that.  His exact methods cannot be revealed in advance, but they will be at least as effective as last time, possibly more so.

It seems to us that Friday's stock market bounce was probably no more than short covering at the end of of pretty nasty week.  If the Chairman had said instead that the parlous state of the nation, which is clearly apparent to most people not on the Jackson Hole invitation list, had indeed come to his notice, and that he intended to solve it by writing a trillion dollar cheque next week, payable to cash, we suspect that the reaction would have been even more vigorous.  The important thing, everyone agrees, is that the US must under no circumstances be permitted to follow the path of Japan's "lost decade".  We should be very interested in discussing the damage this has brought about in the land of the rising sun, but unfortunately nobody else seems to find this topic worthy of investigation, so the debate must take the form of a monologue.  

It is a matter of public record that for the past twenty years price inflation in Japan has been on balance negligible or even negative, the latter state representing the dreaded "deflation".   Yields on government bonds all along the curve have fallen to remarkably low levels, while dividends on shares are nothing to get excited about either.  Worst of all, to American eyes, the prices at which commercial and domestic property changes hands, like those in the equity markets, have collapsed and never recovered.  All in all, you might expect the Japanese saver to be in a miserable state.  Yet, admittedly looking from a long distance away, this does not appear to be the case.

The Japanese worker, unlike his modern counterpart in the West, is in the habit of spending less than he earns, and putting the rest aside for the future.  Much of this saving is lodged with government agencies at rates close to zero, which is how the country can support its superficially terrifying debt ratios.  The authorities' side of this pact is that, come retirement time, the people are confident that their savings will not have lost their purchasing power through the scourge of inflation.  Exporters complain about the strength of their home currency, as they do around the world, but for the general population this is another source of stability.  They do not miss windfall gains from the appreciation of their homes or speculative investments, because they have never relied upon them.  Furthermore, the strictures in western economics textbooks that a falling price level will curtail all consumer spending as purchasers wait for lower prices have been tested in Japan and found to be largely baseless - this idea was never very convincing, even in theory.

Can this seemingly perfect system go wrong?  Of course, most particularly if the public's faith in the purchasing power of their currency weakened, causing the circle to be broken.  This could happen if inflation were to invade the economy from overseas, or even if the administration were deliberately to create it at the behest of foreign "experts" and its own bankers ( much as an early Australian government imported rabbits ).  Meanwhile, the Japanese are generally confident in their ability to meet their basic needs in retirement.  Many middle-aged Americans must be unconvinced that the experience of their contemporaries across the Pacific really does, as their leaders insist, represent the worst of all possible worlds.

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TONY LAPORTA COMMENT

I sit here this Saturday morning with a Trading System telling me it is time for all the markets we follow to undergo some sort of correction.  I also have technical analysis via divergences telling me to look for these corrections to last up to 4-6 weeks…most likely longer.

I also sit here thinking about "Death Crosses" and the "Hindenberg Omen" and all the frickin bearishness out there.  I have been in this industry 31 years.  I have never heard of a Death Cross or a Hindenberg Omen, but now they are flavor of the month.  Well guess what sports fans?  Have you ever heard of a "Mid-Term Election" and a President with an "Open Checkbook"?

I am as bearish as all the rest, but I have numerous indicators telling me NOT YET.  Probably the most significant indicator of them all is the Copper market; but I have mentioned this a couple of times already.  I also have a very keen eye on the Euro-Yen cross…the Possible Broadening Bottom in place.  The Possible H&S Bottoms in SPU and the Mid-Cap 400 are for real and the Possible Double Bottom in the Russell 2000.  There is also a support line in the Japanese Yen that was tested on Friday.  If this is taken out the Yen could be in trouble which I feel would be bullish for Wall Street.

So…………with all that said, my last indicator is the TLP "I hate to be in that long ass queue with everyone else" indicator.  I am a local at heart.  I prefer to stand alone.  I remain bullish the indices and bearish the credit markets.  I am looking for both of these sectors to follow through on Monday…i.e…indices higher and credit markets lower.

To request a one week free trialvisit Tony's website -  http://www.powerpoints.net

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Friday August 27, 2010

THE MAGAMBO GURU - for The Daily Reckoning.

RUSH OUT AND BUY SOME GOLD! RUSSIA IS BUYING GOLD!

08/26/10 Tampa, Florida - I remember the good old days of the Cold War when the Russians were humorless robots who could always manage to catch James Bond, a British secret agent better known by his "License to Kill" number: 007.

But the clumsy, doltish Russians could never hold onto him, and in the process, a lot of Russian secret agents, soldiers, miscellaneous employees, assorted affiliates and innocent bystanders all died, usually in a blaze of gunfire or explosions of some kind.

As a young man, I remember it especially well because I noticed that Really Hot Babes (RHB) were always practically throwing themselves into James Bonds' arms, talking in vague, strangely-forbidden double entendres, husky whispers promising pleasures a-plenty coming from Really Hot Babes (RHB) whose barely-parted, glistening red lips cried out to be kissed, hard, and your brawny arm roughly encircles her dainty waist, pulling her harder and harder against your manly chest as you kissed her, deeply, hungrily, dominating her with raw machismo until she is breathless with desire and crying out for more, begging, "James! Oh, James!" unlike Sandra.

READ MORE...

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BERNANKE SPEECH

Bernanke Says U.S. to Ensure Recovery Continuation: Full Text
2010-08-27 14:00:00.21 GMT


Aug. 27 (Bloomberg) -- Following is the text of a speech
delivered today by Federal Reserve Chairman Ben S. Bernanke in
Jackson Hole, Wyoming:

The annual meeting at Jackson Hole always provides a
valuable opportunity to reflect on the economic and financial
developments of the preceding year, and recently we have had a
great deal on which to reflect. A year ago, in my remarks to
this conference, I reviewed the response of the global policy
community to the financial crisis.1
Notwithstanding some important steps forward, however, as
we return once again to Jackson Hole I think we would all agree
that, for much of the world, the task of economic recovery and
repair remains far from complete. In many countries, including
the United States and most other advanced industrial nations,
growth during the past year has been too slow and joblessness
remains too high. Financial conditions are generally much
improved, but bank credit remains tight; moreover, much of the
work of implementing financial reform lies ahead of us. Managing
fiscal deficits and debt is a daunting challenge for many
countries, and imbalances in global trade and current accounts
remain a persistent problem. On the whole, when the eruption of
the Panic of 2008 threatened the very foundations of the global
economy, the world rose to the challenge, with a remarkable
degree of international cooperation, despite very difficult
conditions and compressed time frames. And when last we gathered
here, there were strong indications that the sharp contraction
of the global economy of late 2008 and early 2009 had ended.
Most economies were growing again, and international trade was
once again expanding.
This list of concerns makes clear that a return to strong
and stable economic growth will require appropriate and
effective responses from economic policymakers across a wide
spectrum, as well as from leaders in the private sector. Central
bankers alone cannot solve the world's economic problems. That
said, monetary policy continues to play a prominent role in
promoting the economic recovery and will be the focus of my
remarks today. I will begin with an update on the economic
outlook in the United States and then review the measures that
the Federal Open Market Committee (FOMC) has taken to support
the economic recovery and maintain price stability. I will
conclude by discussing and evaluating some policy options that
the FOMC has at its disposal, should further action become
necessary.

The Economic Outlook

As I noted at the outset, when we last gathered here, the
deep economic contraction had ended, and we were seeing broad
stabilization in global economic activity and the beginnings of
a recovery. Concerted government efforts to restore confidence
in the financial system, including the aggressive provision of
liquidity by central banks, were essential in achieving that
outcome. Monetary policies in many countries had been eased
aggressively. Fiscal policy--including stimulus packages,
expansions of the social safety net, and the countercyclical
spending and tax policies known collectively as automatic
stabilizers--also helped to arrest the global decline. Once
demand began to stabilize, firms gained sufficient confidence to
increase production and slow the rapid liquidation of
inventories that they had begun during the contraction.
Expansionary fiscal policies and a powerful inventory cycle,
helped by a recovery in international trade and improved
financial conditions, fueled a significant pickup in growth.
At best, though, fiscal impetus and the inventory cycle can
drive recovery only temporarily. For a sustained expansion to
take hold, growth in private final demand-- notably, consumer
spending and business fixed investment--must ultimately take the
lead. On the whole, in the United States, that critical handoff
appears to be under way.
However, although private final demand, output, and
employment have indeed been growing for more than a year, the
pace of that growth recently appears somewhat less vigorous than
we expected. Notably, since stabilizing in mid-2009, real
household spending in the United States has grown in the range
of 1 to 2 percent at annual rates, a relatively modest pace.
Households' caution is understandable. Importantly, the
painfully slow recovery in the labor market has restrained
growth in labor income, raised uncertainty about job security
and prospects, and damped confidence. Also, although consumer
credit shows some signs of thawing, responses to our Senior Loan
Officer Opinion Survey on Bank Lending Practices suggest that
lending standards to households generally remain tight.2
The prospects for household spending depend to a
significant extent on how the jobs situation evolves. But the
pace of spending will also depend on the progress that
households make in repairing their financial positions. Among
the most notable results to emerge from the recent revision of
the U.S. national income data is that, in recent quarters,
household saving has been higher than we thought--averaging near
6 percent of disposable income rather than 4 percent, as the
earlier data showed.3 On the one hand, this finding suggests
that households, collectively, are even more cautious about the
economic outlook and their own prospects than we previously
believed. But on the other hand, the upward revision to the
saving rate also implies greater progress in the repair of
household balance sheets. Stronger balance sheets should in turn
allow households to increase their spending more rapidly as
credit conditions ease and the overall economy improves.
Household finances and attitudes also bear heavily on the
housing market, which has generally remained depressed. In
particular, home sales dropped sharply following the recent
expiration of the homebuyers' tax credit. Going forward,
improved affordability--the result of lower house prices and
record-low mortgage rates--should boost the demand for housing.
However, the overhang of foreclosed-upon and vacant housing and
the difficulties of many households in obtaining mortgage
financing are likely to continue to weigh on the pace of
residential investment for some time yet.
In the business sector, real investment in equipment and
software rose at an annual rate of more than 20 percent over the
first half of the year. Some of these gains no doubt reflected
spending that had been deferred during the crisis, including
investments to replace or update existing equipment.
Consequently, investment in equipment and software will almost
certainly increase more slowly over the remainder of this year,
though it should continue to advance at a solid pace. In
contrast, outside of a few areas such as drilling and mining,
business investment in structures has continued to contract,
although the rate of contraction appears to be slowing.
Although most firms faced problems obtaining credit during
the depths of the crisis, over the past year or so a divide has
opened between large firms that are able to tap public
securities markets and small firms that largely depend on banks.
Generally speaking, large firms in good financial condition can
obtain credit easily and on favorable terms; moreover, many
large firms are holding exceptionally large amounts of cash on
their balance sheets. For these firms, willingness to expand--
and, in particular, to add permanent employees--depends
primarily on expected increases in demand for their products,
not on financing costs. Bank-dependent smaller firms, by
contrast, have faced significantly greater problems obtaining
credit, according to surveys and anecdotes. The Federal Reserve,
together with other regulators, has been engaged in significant
efforts to improve the credit environment for small businesses.
For example, through the provision of specific guidance and
extensive examiner training, we are working to help banks strike
a good balance between appropriate prudence and reasonable
willingness to make loans to creditworthy borrowers. We have
also engaged in extensive outreach efforts to banks and small
businesses. There is some hopeful news on this front: For the
most part, bank lending terms and conditions appear to be
stabilizing and are even beginning to ease in some cases, and
banks reportedly have become more proactive in seeking out
creditworthy borrowers.
Incoming data on the labor market have remained
disappointing. Private-sector employment has grown only
sluggishly, the small decline in the unemployment rate is
attributable more to reduced labor force participation than to
job creation, and initial claims for unemployment insurance
remain high. Firms are reluctant to add permanent employees,
citing slow growth of sales and elevated economic and regulatory
uncertainty. In lieu of adding permanent workers, some firms
have increased labor input by increasing workweeks, offering
full-time work to part-time workers, and making extensive use of
temporary workers.
Besides consumption spending and business fixed investment,
net exports are a third source of demand for domestic
production. The substantial recovery in international trade is a
very positive development for the global economy; for the United
States, improving export markets are an important reason that
manufacturing has been a leading sector in the recovery. Like
others, we were surprised by the sharp deterioration in the U.S.
trade balance in the second quarter. However, that deterioration
seems to have reflected a number of temporary and special
factors. Generally, the arithmetic contribution of net exports
to growth in the gross domestic product tends to be much closer
to zero, and that is likely to be the case in coming quarters.
Overall, the incoming data suggest that the recovery of
output and employment in the United States has slowed in recent
months, to a pace somewhat weaker than most FOMC participants
projected earlier this year. Much of the unexpected slowing is
attributable to the household sector, where consumer spending
and the demand for housing have both grown less quickly than was
anticipated. Consumer spending may continue to grow relatively
slowly in the near term as households focus on repairing their
balance sheets. I expect the economy to continue to expand in
the second half of this year, albeit at a relatively modest
pace.
Despite the weaker data seen recently, the preconditions
for a pickup in growth in 2011 appear to remain in place.
Monetary policy remains very accommodative, and financial
conditions have become more supportive of growth, in part
because a concerted effort by policymakers in Europe has reduced
fears related to sovereign debts and the banking system there.
Banks are improving their balance sheets and appear more willing
to lend. Consumers are reducing their debt and building savings,
returning household wealth-to-income ratios near to longer-term
historical norms. Stronger household finances, rising incomes,
and some easing of credit conditions will provide the basis for
more-rapid growth in household spending next year.
Businesses' investment in equipment and software should
continue to grow at a healthy pace in the coming year, driven by
rising demand for products and services, the continuing need to
replace or update existing equipment, strong corporate balance
sheets, and the low cost of financing, at least for those firms
with access to public capital markets. Rising sales and
increased business confidence should also lead firms to expand
payrolls. However, investment in structures will likely remain
weak. On the fiscal front, state and local governments continue
to be under pressure; but with tax receipts showing signs of
recovery, their spending should decline less rapidly than it has
in the past few years. Federal fiscal stimulus seems set to
continue to fade but likely not so quickly as to derail growth
in coming quarters.
Although output growth should be stronger next year,
resource slack and unemployment seem likely to decline only
slowly. The prospect of high unemployment for a long period of
time remains a central concern of policy. Not only does high
unemployment, particularly long-term unemployment, impose heavy
costs on the unemployed and their families and on society, but
it also poses risks to the sustainability of the recovery itself
through its effects on households' incomes and confidence.
Maintaining price stability is also a central concern of
policy. Recently, inflation has declined to a level that is
slightly below that which FOMC participants view as most
conducive to a healthy economy in the long run. With inflation
expectations reasonably stable and the economy growing,
inflation should remain near current readings for some time
before rising slowly toward levels more consistent with the
Committee's objectives. At this juncture, the risk of either an
undesirable rise in inflation or of significant further
disinflation seems low. Of course, the Federal Reserve will
monitor price developments closely.
In the remainder of my remarks I will discuss the policies
the Federal Reserve is currently using to support economic
recovery and price stability. I will also discuss some
additional policy options that we could consider, especially if
the economic outlook were to deteriorate further.

Federal Reserve Policy

In 2008 and 2009, the Federal Reserve, along with
policymakers around the world, took extraordinary actions to
arrest the financial crisis and help restore normal functioning
in key financial markets, a precondition for economic
stabilization. To provide further support for the economic
recovery while maintaining price stability, the Fed has also
taken extraordinary measures to ease monetary and financial
conditions.
Notably, since December 2008, the FOMC has held its target
for the federal funds rate in a range of 0 to 25 basis points.
Moreover, since March 2009, the Committee has consistently
stated its expectation that economic conditions are likely to
warrant exceptionally low policy rates for an extended period.
Partially in response to FOMC communications, futures markets
quotes suggest that investors are not anticipating significant
policy tightening by the Federal Reserve for quite some time.
Market expectations for continued accommodative policy have in
turn helped reduce interest rates on a range of short- and
medium-term financial instruments to quite low levels, indeed
not far above the zero lower bound on nominal interest rates in
many cases.
The FOMC has also acted to improve market functioning and
to push longer-term interest rates lower through its large-scale
purchases of agency debt, agency mortgage-backed securities
(MBS), and longer-term Treasury securities, of which the Federal
Reserve currently holds more than $2 trillion. The channels
through which the Fed's purchases affect longer-term interest
rates and financial conditions more generally have been subject
to debate. I see the evidence as most favorable to the view that
such purchases work primarily through the so-called portfolio
balance channel, which holds that once short-term interest rates
have reached zero, the Federal Reserve's purchases of longer-
term securities affect financial conditions by changing the
quantity and mix of financial assets held by the public.
Specifically, the Fed's strategy relies on the presumption that
different financial assets are not perfect substitutes in
investors' portfolios, so that changes in the net supply of an
asset available to investors affect its yield and those of
broadly similar assets. Thus, our purchases of Treasury, agency
debt, and agency MBS likely both reduced the yields on those
securities and also pushed investors into holding other assets
with similar characteristics, such as credit risk and duration.
For example, some investors who sold MBS to the Fed may have
replaced them in their portfolios with longer-term, high-quality
corporate bonds, depressing the yields on those assets as well.
The logic of the portfolio balance channel implies that the
degree of accommodation delivered by the Federal Reserve's
securities purchase program is determined primarily by the
quantity and mix of securities the central bank holds or is
anticipated to hold at a point in time (the "stock view"),
rather than by the current pace of new purchases (the "flow
view"). In support of the stock view, the cessation of the
Federal Reserve's purchases of agency securities at the end of
the first quarter of this year seems to have had only negligible
effects on longer-term rates and spreads.
The Federal Reserve did not hold the size of its securities
portfolio precisely constant after it ended its agency purchase
program earlier this year. Instead, consistent with the
Committee's goal of ultimately returning the portfolio to one
consisting primarily of Treasury securities, we adopted a policy
of re-investing maturing Treasuries in similar securities while
allowing agency securities to run off as payments of principal
were received. To date, we have realized about $140 billion of
repayments of principal on our holdings of agency debt and MBS,
most of it prior to the end of the purchase program. Continued
repayments at this pace, together with the policy of not re-
investing the proceeds, were expected to lead to a slight
reduction in policy accommodation over time.
However, more recently, as the pace of economic growth has
slowed somewhat, longer-term interest rates have fallen and
mortgage refinancing activity has picked up. Increased
refinancing has in turn led the Fed's holding of agency MBS to
run off more quickly than previously anticipated. Although
mortgage prepayment rates are difficult to predict, under the
assumption that mortgage rates remain near current levels, we
estimated that an additional $400 billion or so of MBS and
agency debt currently in the Fed's portfolio could be repaid by
the end of 2011.
At their most recent meeting, FOMC participants observed
that allowing the Federal Reserve's balance sheet to shrink in
this way at a time when the outlook had weakened somewhat was
inconsistent with the Committee's intention to provide the
monetary accommodation necessary to support the recovery.
Moreover, a bad dynamic could come into at play: Any further
weakening of the economy that resulted in lower longer-term
interest rates and a still-faster pace of mortgage refinancing
would likely lead in turn to an even more-rapid runoff of MBS
from the Fed's balance sheet. Thus, a weakening of the economy
might act indirectly to increase the pace of passive policy
tightening--a perverse outcome. In response to these concerns,
the FOMC agreed to stabilize the quantity of securities held by
the Federal Reserve by re-investing payments of principal on
agency securities into longer-term Treasury securities. We
decided to reinvest in Treasury securities rather than agency
securities because the Federal Reserve already owns a very large
share of available agency securities, suggesting that
reinvestment in Treasury securities might be more effective in
reducing longer-term interest rates and improving financial
conditions with less chance of adverse effects on market
functioning. Also, as I already noted, reinvestment in Treasury
securities is more consistent with the Committee's longer-term
objective of a portfolio made up principally of Treasury
securities. We do not rule out changing the reinvestment
strategy if circumstances warrant, however.
By agreeing to keep constant the size of the Federal
Reserve's securities portfolio, the Committee avoided an
undesirable passive tightening of policy that might otherwise
have occurred. The decision also underscored the Committee's
intent to maintain accommodative financial conditions as needed
to support the recovery. We will continue to monitor economic
developments closely and to evaluate whether additional monetary
easing would be beneficial. In particular, the Committee is
prepared to provide additional monetary accommodation through
unconventional measures if it proves necessary, especially if
the outlook were to deteriorate significantly. The issue at this
stage is not whether we have the tools to help support economic
activity and guard against disinflation. We do. As I will
discuss next, the issue is instead whether, at any given
juncture, the benefits of each tool, in terms of additional
stimulus, outweigh the associated costs or risks of using the
tool.

Policy Options for Further Easing

Notwithstanding the fact that the policy rate is near its
zero lower bound, the Federal Reserve retains a number of tools
and strategies for providing additional stimulus. I will focus
here on three that have been part of recent staff analyses and
discussion at FOMC meetings: (1) conducting additional purchases
of longer-term securities, (2) modifying the Committee's
communication, and (3) reducing the interest paid on excess
reserves. I will also comment on a fourth strategy, proposed by
several economists--namely, that the FOMC increase its inflation
goals.
A first option for providing additional monetary
accommodation, if necessary, is to expand the Federal Reserve's
holdings of longer-term securities. As I noted earlier, the
evidence suggests that the Fed's earlier program of purchases
was effective in bringing down term premiums and lowering the
costs of borrowing in a number of private credit markets. I
regard the program (which was significantly expanded in March
2009) as having made an important contribution to the economic
stabilization and recovery that began in the spring of 2009.
Likewise, the FOMC's recent decision to stabilize the Federal
Reserve's securities holdings should promote financial
conditions supportive of recovery.
I believe that additional purchases of longer-term
securities, should the FOMC choose to undertake them, would be
effective in further easing financial conditions. However, the
expected benefits of additional stimulus from further expanding
the Fed's balance sheet would have to be weighed against
potential risks and costs. One risk of further balance sheet
expansion arises from the fact that, lacking much experience
with this option, we do not have very precise knowledge of the
quantitative effect of changes in our holdings on financial
conditions. In particular, the impact of securities purchases
may depend to some extent on the state of financial markets and
the economy; for example, such purchases seem likely to have
their largest effects during periods of economic and financial
stress, when markets are less liquid and term premiums are
unusually high. The possibility that securities purchases would
be most effective at times when they are most needed can be
viewed as a positive feature of this tool. However, uncertainty
about the quantitative effect of securities purchases increases
the difficulty of calibrating and communicating policy
responses.
Another concern associated with additional securities
purchases is that substantial further expansions of the balance
sheet could reduce public confidence in the Fed's ability to
execute a smooth exit from its accommodative policies at the
appropriate time. Even if unjustified, such a reduction in
confidence might lead to an undesired increase in inflation
expectations. (Of course, if inflation expectations were too
low, or even negative, an increase in inflation expectations
could become a benefit.) To mitigate this concern, the Federal
Reserve has expended considerable effort in developing a suite
of tools to ensure that the exit from highly accommodative
policies can be smoothly accomplished when appropriate, and FOMC
participants have spoken publicly about these tools on numerous
occasions. Indeed, by providing maximum clarity to the public
about the methods by which the FOMC will exit its highly
accommodative policy stance--and thereby helping to anchor
inflation expectations--the Committee increases its own
flexibility to use securities purchases to provide additional
accommodation, should conditions warrant.
A second policy option for the FOMC would be to ease
financial conditions through its communication, for example, by
modifying its post-meeting statement. As I noted, the statement
currently reflects the FOMC's anticipation that exceptionally
low rates will be warranted "for an extended period,"
contingent on economic conditions. A step the Committee could
consider, if conditions called for it, would be to modify the
language in the statement to communicate to investors that it
anticipates keeping the target for the federal funds rate low
for a longer period than is currently priced in markets. Such a
change would presumably lower longer-term rates by an amount
related to the revision in policy expectations.
Central banks around the world have used a variety of
methods to provide future guidance on rates. For example, in
April 2009, the Bank of Canada committed to maintain a low
policy rate until a specific time, namely, the end of the second
quarter of 2010, conditional on the inflation outlook.4 Although
this approach seemed to work well in Canada, committing to keep
the policy rate fixed for a specific period carries the risk
that market participants may not fully appreciate that any such
commitment must ultimately be conditional on how the economy
evolves (as the Bank of Canada was careful to state). An
alternative communication strategy is for the central bank to
explicitly tie its future actions to specific developments in
the economy. For example, in March 2001, the Bank of Japan
committed to maintaining its policy rate at zero until Japanese
consumer prices stabilized or exhibited a year-on-year increase.
A potential drawback of using the FOMC's post-meeting statement
to influence market expectations is that, at least without a
more comprehensive framework in place, it may be difficult to
convey the Committee's policy intentions with sufficient
precision and conditionality. The Committee will continue to
actively review its communication strategy, with the goal of
communicating its outlook and policy intentions as clearly as
possible.
A third option for further monetary policy easing is to
lower the rate of interest that the Fed pays banks on the
reserves they hold with the Federal Reserve System. Inside the
Fed this rate is known as the IOER rate, the "interest on
excess reserves" rate. The IOER rate, currently set at 25 basis
points, could be reduced to, say, 10 basis points or even to
zero. On the margin, a reduction in the IOER rate would provide
banks with an incentive to increase their lending to
nonfinancial borrowers or to participants in short-term money
markets, reducing short-term interest rates further and possibly
leading to some expansion in money and credit aggregates.
However, under current circumstances, the effect of reducing the
IOER rate on financial conditions in isolation would likely be
relatively small. The federal funds rate is currently averaging
between 15 and 20 basis points and would almost certainly remain
positive after the reduction in the IOER rate. Cutting the IOER
rate even to zero would be unlikely therefore to reduce the
federal funds rate by more than 10 to 15 basis points. The
effect on longer-term rates would probably be even less,
although that effect would depend in part on the signal that
market participants took from the action about the likely future
course of policy. Moreover, such an action could disrupt some
key financial markets and institutions. Importantly for the
Fed's purposes, a further reduction in very short-term interest
rates could lead short-term money markets such as the federal
funds market to become much less liquid, as near-zero returns
might induce many participants and market-makers to exit. In
normal times the Fed relies heavily on a well-functioning
federal funds market to implement monetary policy, so we would
want to be careful not to do permanent damage to that market.
A rather different type of policy option, which has been
proposed by a number of economists, would have the Committee
increase its medium-term inflation goals above levels consistent
with price stability. I see no support for this option on the
FOMC. Conceivably, such a step might make sense in a situation
in which a prolonged period of deflation had greatly weakened
the confidence of the public in the ability of the central bank
to achieve price stability, so that drastic measures were
required to shift expectations. Also, in such a situation,
higher inflation for a time, by compensating for the prior
period of deflation, could help return the price level to what
was expected by people who signed long-term contracts, such as
debt contracts, before the deflation began.
However, such a strategy is inappropriate for the United
States in current circumstances. Inflation expectations appear
reasonably well-anchored, and both inflation expectations and
actual inflation remain within a range consistent with price
stability. In this context, raising the inflation objective
would likely entail much greater costs than benefits. Inflation
would be higher and probably more volatile under such a policy,
undermining confidence and the ability of firms and households
to make longer-term plans, while squandering the Fed's hard-won
inflation credibility. Inflation expectations would also likely
become significantly less stable, and risk premiums in asset
markets--including inflation risk premiums--would rise. The
combination of increased uncertainty for households and
businesses, higher risk premiums in financial markets, and the
potential for destabilizing movements in commodity and currency
markets would likely overwhelm any benefits arising from this
strategy.
Each of the tools that the FOMC has available to provide
further policy accommodation--including longer-term securities
asset purchases, changes in communication, and reducing the IOER
rate--has benefits and drawbacks, which must be appropriately
balanced. Under what conditions would the FOMC make further use
of these or related policy tools? At this juncture, the
Committee has not agreed on specific criteria or triggers for
further action, but I can make two general observations.
First, the FOMC will strongly resist deviations from price
stability in the downward direction. Falling into deflation is
not a significant risk for the United States at this time, but
that is true in part because the public understands that the
Federal Reserve will be vigilant and proactive in addressing
significant further disinflation. It is worthwhile to note that,
if deflation risks were to increase, the benefit-cost tradeoffs
of some of our policy tools could become significantly more
favorable.
Second, regardless of the risks of deflation, the FOMC will
do all that it can to ensure continuation of the economic
recovery. Consistent with our mandate, the Federal Reserve is
committed to promoting growth in employment and reducing
resource slack more generally. Because a further significant
weakening in the economic outlook would likely be associated
with further disinflation, in the current environment there is
little or no potential conflict between the goals of supporting
growth and employment and of maintaining price stability.

Conclusion

This morning I have reviewed the outlook, the Federal
Reserve's response, and its policy options for the future should
the recovery falter or inflation decline further.
In sum, the pace of recovery in output and employment has
slowed somewhat in recent months, in part because of slower-
than-expected growth in consumer spending, as well as continued
weakness in residential and nonresidential construction. Despite
this recent slowing, however, it is reasonable to expect some
pickup in growth in 2011 and in subsequent years. Broad
financial conditions, including monetary policy, are supportive
of growth, and banks appear to have become somewhat more willing
to lend. Importantly, households may have made more progress
than we had earlier thought in repairing their balance sheets,
allowing them more flexibility to increase their spending as
conditions improve. And as the expansion strengthens, firms
should become more willing to hire. Inflation should remain
subdued for some time, with low risks of either a significant
increase or decrease from current levels.
Although what I have just described is, I believe, the most
plausible outcome, macroeconomic projections are inherently
uncertain, and the economy remains vulnerable to unexpected
developments. The Federal Reserve is already supporting the
economic recovery by maintaining an extraordinarily
accommodative monetary policy, using multiple tools. Should
further action prove necessary, policy options are available to
provide additional stimulus. Any deployment of these options
requires a careful comparison of benefit and cost. However, the
Committee will certainly use its tools as needed to maintain
price stability--avoiding excessive inflation or further
disinflation--and to promote the continuation of the economic
recovery.
As I said at the beginning, we have come a long way, but
there is still some way to travel. Together with other economic
policymakers and the private sector, the Federal Reserve remains
committed to playing its part to help the U.S. economy return to
sustained, noninflationary growth.


For Related News and Information:
Federal Reserve links: FED <GO>
Credit crunch page: WWCC <GO>
Fed balance-sheet figures: ALLX FARW <GO>
Government relief programs: GGRP <GO>
Fed monetary policy: FOMC <GO>
Fed Web links: FRBM <GO>
Central bank rates worldwide: CBRT <GO>

--Editors: Andrew Barden, Theophilos Argitis

To contact the reporter on this story:
Alexandre Deslongchamps in Ottawa at +1-613-667-4801 or
adeslongcham@bloomberg.net.

To contact the editor responsible for this story:
Christopher Wellisz at +1-202-624-1862 or
cwellisz@bloomberg.net
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PREVIEW: Bernanke Speech at Jackson Hole

QE or no QE…that is the question

The decision by the Fed to reinvest its maturing mortgage portfolios which roughly equates to around USD 250bln, was not communicated particularly well by the Fed and it is becoming increasingly obvious that the Fed has become a puppet not only to politicians but also to the financial markets. As such, Bernanke will likely reiterate the need for the Fed to maintain its independence when not only tackling any future crises but also when pulling out of accommodative policy stance. It is also likely that he will clarify that the Fed has plenty of tools left at its disposal should conditions deteriorate further.

It is clear that the Fed has tools at its disposal to fight the potential of deflation however just because the Fed's recent action opens the door for further asset purchases it does not automatically mean that it will undertake them immediately. In addition, with bond yields already near historic lows, more Treasury purchases will do little to accomplish the sought after result. As such, it may prove to be more effective for the Obama administration to cut taxes, instigate another stimulus program and potentially recreate housing tax breaks. Even so, things may need to turn significantly worse before such action may be taken. The mid-term elections are also likely to put off such measures being initiated in the next couple of months.

In addition, a recent WSJ article indicated than seven members at the August 10 FOMC meeting voiced reservations about the decision to reinvest repayments of principal on agency debt and agency-sponsored mortgage-backed securities now being held by the central bank. As such, the September meeting may be too soon for those members to change their opinions and vote for further balance sheet expansion.

Ultimately, Bernanke is likely to paint a grim future for the US economy but reiterate the fact that the Fed will do whatever it takes to support the economic recovery. As such, even though further QE is unlikely to be mentioned or hinted at, his assessment of the economic will likely keep T-notes from moving lower.

However, current yield levels may be a good representation of potential risks of a double-dip given the drastic measures that central banks have go to in order to come out of the recession only to reach anaemic growth levels. Therefore, a sharp correction in prices is unlikely should today's speech disappoint those looking for more Treasury purchases. While the USD will likely move higher and weigh on EUR and GBP on expectation that both Europe and UK will soon catch up with the global economic slowdown.

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