Every time the Federal Reserve meets, it’s important to remember that the only real monetary tradition of the 107-year-old institution is for a group of people to come together, talk about markets and the economy, and decide what next to do is.
There is never really a right or wrong answer on how to do that. There are only the decisions that top Fed officials end up making. Officials are, of course, largely guided by economic theory and history, ostensibly a desire to ensure stability and long-term growth, and perhaps a little politics from time to time. However, the ad hoc situation is underscored by the fact that officials are constantly changing their own rules.
In terms of market reaction, this week’s Fed meeting has been as hot as it comes. The Standard & Poor’s 500 index of large US stocks fell 0.5% on Wednesday as the central bank announced its latest incarnation of monetary policy. Little has changed in gold. Bitcoin gained 2.2%.
This is in part because Chairman Jerome Powell used a speech last month to wire his plans for a newly hatched technique known as the “average inflation target.” In essence, the Fed is now promising to keep US interest rates near zero until inflation rises above a 2% target and stays there for “some time”. On Wednesday, the only real news was that officials were formalizing the practice.
The average inflation target has never been tried before, but Fed officials now largely agree that this is the right thing to do at this point. The message they are sending is that investors, businesspeople and banks can rely on the central bank to keep borrowing costs down until the economy is healthy again.
“This could all go wrong in future circumstances. At that point,” trust us, we are the Fed “might not be enough for the markets,” Ian Shepherdson, chief economist at forecasting firm Pantheon Macroeconomics, wrote in a note to clients.
Just like the $ 1.2 trillion Fed emergency loan programs introduced during the 2008 financial crisis, the average inflation target is a brand new tool that until recently investors were unaware that the central bank could ever use it. And just like former Fed Chairman Ben Bernanke’s “quantitative easing programs” in the post-financial crisis years, when tens of billions of government and mortgage bonds were bought every month, the new policy is really just an attempt to rebuild an economy.
“Monetary policy creativity will undoubtedly remain high,” said Ben Emons, former portfolio manager at bond fund giant Pimco, who now serves as macro strategy director for analytics firm Medley Global Advisors.
What gets a little ridiculous is any attempt to examine the supporting materials provided by the Fed as a prerequisite for the decision. A “Summary of Economic Forecasts” published online on Wednesday shows that top officials, on average, expect inflation to stay below 2% for the next few years before hitting the mark in 2023. They expect the economy to shrink 3.7% this year before growing 4% next year, 3% the following year, and 2.5% in 2023.
It’s the kind of image you’d expect from a perfectly managed economy.
Federal Reserve Economic Forecast Summary from September 2020 meeting.
Source: Federal Reserve
But of course, even in the near future, Fed officials have little more idea than anyone else of what the future holds. One of the most controversial presidential elections in US history is due in November. Racial tensions are increasing. The course of the pandemic is far from clear. The legislature is divided. National debt has risen rapidly to nearly $ 27 trillion, up $ 23 trillion earlier in the year, and there is no realistic expectation that the federal budget will be in balance anytime soon.
The economic outlook and the development of markets can change quickly. Unexpected things happen. In late 2019, Fed officials forecast the economy would grow at an anemic but steady 2% increase in 2020. This did not happen. Fed officials really have no idea how the economy will perform through 2023, let alone what the next few months could bring.
Markets have been stable, if just a little frothy, lately, and there is no reason for the Fed to be making particularly heroic efforts to change that dynamic right now.
“You’re driving through the fog and can’t see,” Emons said in a telephone interview. “We’re getting a little out of the fog now, but there’s still a lot of fog.”
Federal Reserve Chairman Jerome Powell speaks at a virtual press conference Wednesday.
Source: CNBC, modified by CoinDesk
A plausible scenario is for the Fed to do as little as possible over the next few months, unless the markets experience another downturn. If so, it is possible for the Fed to step in. When the markets rocked in March, the Fed expanded its balance sheet from about $ 4 trillion to $ 7 trillion in just a few weeks. The surge accounted for about three-quarters of all the money the central bank had ever created before. Until it happened, it seemed unthinkable.
On Wednesday it was clear to Powell that the Fed can act forcefully if necessary. He noted that the central bank is already buying government bonds and mortgage bonds worth $ 120 billion a month, which translates to $ 1.44 trillion a year.
“I would certainly not say that we are out of ammunition at all,” Powell told reporters during a press conference Wednesday. “There’s a lot more we can do.”
The lesson for bitcoin traders or gold traders or bond traders or other investors trying to gauge the potential for rapid inflation or currency deterioration is that if Fed officials decide to print more money, they can and will.
The Federal Reserve’s balance sheet has grown from less than $ 1 trillion before the 2008 financial crisis to about $ 7 trillion now. (Federal Reserve Bank of St. Louis)
Source: St. Louis Fred
Bitcoin daily chart.
- CoinDesk shows the Bitcoin price, which was corrected from a high of just under $ 11,100 to just under $ 10,900 on the trading day in Asia.
- While falling below such a major psychological hurdle is a blow to the bulls, Bitcoin is currently showing no signs of falling back to the $ 10,300-10,400 range it was trading earlier this week.
- The correction in Bitcoin price could be due to growing doubts about the Fed’s ability to hit the 2% inflation target.
- While the prospect of high inflation is widely viewed as good for Bitcoin, some market watchers have raised concerns about whether the Fed has what it takes to achieve its goal.
- John O’Connell, portfolio manager at Garda Capital, told the Financial Times that the Fed still has a lot to prove as it has not been able to consistently generate inflation for a long time.
- Indeed, the Fed’s announcement met with general unease in the marketplace. The S&P 500 slumped 0.46% and the Nasdaq fell another 1% while both bond yields and the US dollar rose slightly.
- Similarly, an announcement by the Bank of Japan to leave rates unchanged this morning caused the Nikkei to fall 0.67% on the trading day in Asia.
- While there is an argument that Bitcoin benefits in a deflationary market, it would certainly hurt the prevailing narrative that the tightly limited supply of the original cryptocurrency makes it a perfect hedge against a runaway money supply.
- Bitcoin was trading at $ 10,885 at press time. It could fall further as the Bank of England was expected to keep rates unchanged later on Wednesday.
Uniswap (UNI), SushiSwap (SUSHI), Ether (ETH): DeFi boss Uniswap is coining 1 billion “governance tokens” to be released over the next four years, one week after the “vampire mining” attack by copycat rival SushiSwap. The deal immediately started adding to the congestion on the already stressed Ethereum blockchain network, and cryptocurrency exchange Coinbase has already listed the new UNI tokens on its Pro platform. Binance too.
Ether (ETH): Only 22% of option bets will see airwaves above $ 400 next week after the September 25th expires.
Polkadot (DOT): Polimec token-minting system could bring more people and projects to Polkadot’s parachutes.
What is hot?
The number of “Young Investment” wallets created less than three months ago has doubled to over 2 million in the last six months (CoinDesk).
A tool for measuring intraday volatility suggests that Bitcoin has given its first buy signal in months (Bloomberg).
Ava Labs joins the ring of decentralized financial platforms (DeFi) to gain market share from the Ethereum ecosystem (CoinDesk).
The Wyoming Banking Board has agreed to approve Cryken Exchange Kraken’s application for a specialty custodian charter. This makes it the first cryptocurrency company to become a bank (CoinDesk).
UBS, a global banking giant, isn’t sure whether Bitcoin is a safe haven (decrypt).
Pantera Capital joins $ 4.7 million token sale for bitcoin options trading platform PowerTrade (CoinDesk)
The latest on economics and traditional finance
Retail spending stagnated in August with a monthly increase of 0.6% as pandemic aid expires and economic recovery slows (WSJ).
Low mortgage rates sparked a boom in home refinancing, which in turn sparked a boom in mortgage-backed securities (WSJ) issuance.
US President Donald Trump has urged the Senate Republicans to enlarge their stimulus proposal (FT).
Bank stocks dragged Indian stocks on Thursday as tensions emerged in China (Reuters)
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