Millennial Macro

From the September post, With that said, the dollar's role is the dominant factor in the FX markets as expectations pertaining to the path of Fed policy and by extension real interest rate differentials both influence proceedings globally.  As markets begin to strongly anticipate at least one rate hike in the final months of 2016, it may be worth revisiting the price action in the US treasury bond and FX markets that occurred prior to the December 2015 hike.  By October 2015, treasury bonds began to sell off violently as the dollar started to surge against a broad range of currencies.  Although the dollar and the treasury rate rise eventually did reverse while risk assets bounced back for much of 2016 (see February , May , May  market commentaries), as mentioned too many times already (apologies) the troubling deceleration in NGDP and RGDP has not.

In the event that lower labor and regulatory costs* abroad cause domestic companies to relocate their operations and this results in lower expected and realized economic activity, what would we expect to see domestically? A lower neutral rate An underutilization of labor and capital  Deficient aggregate investment and demand Subdued inflation as firms lack pricing power due to weak NGDP Expectations of a more gradual path for monetary policy Fiscal space as the private sector does not fully make use of all the national economy's available resources

Companies Get Paid to Be Junk in Europe "Yields plunged. Corporate-bond sales ballooned. Values became utterly distorted.  Investors are now literally  paying European companies to borrow . Sanofi, a French drugmaker, just became the first nonfinancial private company to issue debt that yields less than zero, according to Bloomberg News. Henkel, a German household products maker, quickly followed suit." "European central bankers don't seem too worried about these distortions. In fact, they seem eager to see those animal spirits return to generate growth. The ECB is considering  expanding its program , possibly to new asset classes.   The ECB may end up getting too much of what it wants. The Bank of America strategists warn against a rapid rise in leverage" "In the meantime, European central bankers seem to have created an Alice-in-Wonderland credit market that's infecting the rest of the world. It's sending investors into emer...

Helicopter Money: Or How I Stopped Worrying and Love Fiscal-Monetary Cooperation "During private deleveraging cycles monetary policy will largely be ineffective if it is aimed at stimulating private credit demand.  What matters is not monetary stimulus per se, but whether monetary stimulus is paired with fiscal stimulus (otherwise known as helicopter money) and whether  monetary policy is communicated in a way that helps the fiscal authority maintain stimulus for as long as private deleveraging continues . Fiscal dominance and central bank independence come in secular cycles and mirror secular private leveraging and deleveraging cycles, respectively. As long as there will be secular debt cycles, central bank independence will be a station, not a final destination." Out of Many, One? Household Debt, Redistribution and Monetary Policy during the Economic Slump* One could, indeed, go further and regard the financial position of firms and households more generally as a po...

The following is a set of points to consider when thinking about how the Fed should conduct monetary policy going forward.  This is by no means an exhaustive list and is solely meant to stimulate discussion after a somewhat sleepy summer in the financial markets despite what was an intense international political backdrop.

In the prior post, The Dollar and Treasury Yields in Limbo: Three Possible Scenarios , I explored potential paths for how the global economy and financial markets could proceed in the intermediate term.  The main difference between the three outcomes depended on the market's perception of the Fed's reaction function.  Seeing as the market odds of a June rate hike have increased substantially following the release of the Fed's April meeting minutes , it felt necessary to further examine scenario 2 . 

From February 12th: Since last year widening high yield US credit spreads, falling global risk securities, commodities, currencies, and inflation expectations  have all coincided with shrinking global foreign exchange reserves.  This combination of factors has produced declining treasury yields as one would expect in a risk-off environment.    If the dollar were to break upward resistance in an ongoing bull run then those trends should persist as US securities continue to beat EM.  To see a return to risk taking, my expectation would be for all or most of those aforementioned trends (in bold) to bottom and reverse.  If the dollar were to break support and correct against a broad range of currencies, a reflation trade may be in order as inflation expectations stabilize and treasury yields rebound.  In this scenario the dollar squeeze would dissipate allowing EM to outperform US securities.  However, if the dollar were to correct or reverse...