Thursday, September 17, 2015

notes from Ben Bernanke

I had the opportunity to hear from (and even ask some questions to) Ben Bernanke last week at a conference. Here are my notes. My impression is that he would NOT hike right now, but you can decide for yourself:

1.       US is doing pretty well

a.       Heart of the recovery will be will be housing sector - housing recovery is only mid-cycle, will continue to provide gains

b.      US is in a virtuous cycle - increased job creation, higher incomes, low energy prices, better balance sheets due to deleveraging, and more wealth

c.       Hhlds feeling good, decent consumer spending

d.      Domestic economy is firing its cylinders

2.       Biggest puzzle is low inflation and wage growth

3.       Potential growth trend can be decomposed into labor force growth and productivity

a.       On productivity growth, I'm a modest optimist

b.      I would expect this to snap back - things that go down will go up

c.       R&D spend is coming back

d.      Mkts are open, lots of credit availability

e.      Low productivity growth means high job creation and low GDP growth

4.       Fed pays more attention to labor force slack than GDP slack

a.       That's why the Fed is considering hiking despite the output gap

5.       Main risks to US recovery are from abroad

a.       Strong dollar

b.      Weakness in trading partners

c.       I was surprised by the recent mkt reaction to China

                                                               i.      Influence of China on US is indirect and small

                                                             ii.      They're entering the classic middle income trap

                                                            iii.      Hitting the limits of its growth model

d.      China is making gradual, deliberate and careful movement towards mkt and reforms

                                                               i.      Avoid rapid capital flows which are hard to control

                                                             ii.      PBoC is not independent, the admin (XJP & LKQ) will always wins against the PBoC

1.       Gov Zhou is very capable and reform-oriented, but nearing retirement age

                                                            iii.      There's different stories internally about why you want to move to a flexible FX rate

1.       Admin wants to ease monetary policy and to strengthen domestic economy

2.       PBoC, on the other hand, emphasizes reform

e.      China influences the Fed significantly

6.       Financial conditions are now tighter than before; lower eqy prices and higher spreads

a.       This weakens the economic outlook in the Fed staff models

b.      Volatility makes the Fed more cautious than otherwise

                                                               i.      Is the mkt seeing something that we don't understand?

7.       An analogous period to now would be Sept 2013 (see chart below)

a.       After the taper tantrum of May 2013, mkts were expecting taper but we didn't do it

b.      Financial conditions were tighter, mortgage rates risen quite a bit, we believed these conditions were not consistent with tighter MP

c.       We are seeing the same thing now

d.      August 2013 labor figures got revised up as it often does

e.      Tapering in December was the right decision

8.       Timing of the first hike has a lot of informational content despite the small size of the move itself

9.       One aspect of today is that we're at zero

a.       Cost of overshooting and going too soon is higher than otherwise

b.      We'd need to come back to zero and we don't really have any reliable tools at zero

c.       Fiscal policy is off the table

d.      Nobody has ever gotten off of zero - everyone finds themselves back at zero

e.      Take Sweden in 2010-2011  - they raised rates from 0.25%->2%, now they're back at zero!

10.   Look at Stan Fischer's comments at Jackson hole

a.       Ultimately we believe in the Phillips curve and that inflation will come back

b.      Lags in policy, takes some time for ZIRP to work

11.   One of the considerations for MP is financial stability issues

a.       Don't fully understand the linkages with MP

b.      MP is too blunt of a tool - SF Fed study showed that in order for the Fed to pop the 2000s housing bubble, would have had to raise FFR 800bps

12.   Yield curve is forecasting very low future FFR, lower than Fed's forecasts

a.       Risk premiums on long bonds are very low and maybe even negative

                                                               i.      Permanent reasons: less fears of inflation, safe haven demand, portfolio preferences

                                                             ii.      Temp reasons: inflation beta may change, hedge value goes down, global savings glut diminishing (China selling tsys, Europe becoming less of a net saver)

                                                            iii.      Negative risk premiums occur when dangers of deflation/disinflation are high, high hedge value for bonds

                                                           iv.      Higher risk premiums will help mkt forecast converge with the Fed's

b.      If the YC flattens or reverts, this is bad news, I hope this doesn't happen


Mkt action in Sept 2013 (vertical line is the Fed meeting)


White is S&P 500

Orange is TLT, the long bond etf

Yellow is UUP, the bullish USD etf

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