The Big Plunge
What's Really Driving the Crashing Markets?
By Mike Whitney
Normally, stocks don’t fall off a cliff unless the economic data suddenly turns south or there are signs of an emerging crisis, like a run on the shadow banking system or threat to Middle East oil supplies.
But neither of these played a part in this week’s equities massacre where the Dow Jones Industrial Average (DJIA) plunged 560-plus points in just two sessions and indices around the globe dipped deep into the red. What triggered this week’s selloff was an announcement from the Federal Reserve that it was planning to scale down it’s asset purchases (QE) in the latter part of 2013, and probably end the program sometime in the middle of 2014. Here’s the offending paragraph in the FOMC’s statement that lit the fuse:
“If the incoming data are broadly consistent with this forecast, the Committee currently anticipates that it would be appropriate to moderate the monthly pace of purchases later this year. And if the subsequent data remain broadly aligned with our current expectations for the economy, we would continue to reduce the pace of purchases in measured steps through the first half of next year, ending purchases around midyear. In this scenario, when asset purchases ultimately come to an end, the unemployment rate would likely be in the vicinity of 7%, with solid economic growth supporting further job gains, a substantial improvement from the 8.1% unemployment rate that prevailed when the committee announced this program.” (FOMC)
Now–unless you
think that Fed chairman Ben Bernanke is a complete
idiot–then you can assume that he knew what the reaction on
Wall Street would be. After all, stock prices have more
than doubled in the last 4 years mainly due to the Fed’s
lavish liquidity spree. So any announcement that the program
is “going away” was sure to send traders racing for the
exits. Which it did. Traders were not having a “hissy fit”
as many in the financial media have said. They were acting
rationally. Absent the Fed’s turbo-charged monetary
stimulus, stocks will go down, there’s no question about it.
Current prices do not reflect fundamentals nor do they
reflect the true health of the economy. They reflect a
couple trillion dollars worth of UST and MBS purchases that
have goosed stock prices dramatically. Traders know this,
which is why they cashed in and walked away when Bernanke
announced the prospective end of the program. They acted
rationally.
But why would
Bernanke want to throw a bucket of cold water on the markets
now? Is it because he really believes that the economy is
gaining momentum and the labor market is steadily improving?
Hell no, that’s
pure baloney. Again, Bernanke is not a moron. He sees what
everyone else sees, that the headline unemployment number
(7.6%) is rubbish that doesn’t reveal the rot beneath the
surface; the abysmal participation rate, the sharp uptick in
part-time workers, and the lousy starvation-wage positions
that have replaced the good paying jobs. Trust me on this;
Bernanke knows how to read a freaking jobs report. He knows
the economy is crap and that people still can’t find work.
Just look at this clip from the SF Fed’s own report on the
condition of the economy. It will help you see that Bernanke
really doesn’t believe the green shoots hype at all:
“Federal fiscal policy during the recession was abnormally expansionary by historical standards. However, over the past 2½ years it has become unusually contractionary as a result of several deficit reduction measures passed by Congress. During the next three years, we estimate that federal budgetary policy could restrain economic growth by as much as 1 percentage point annually beyond the normal fiscal drag that occurs during recoveries….CBO projections and our estimate based on the countercyclical history of fiscal policy suggest that federal budget trends will weigh on growth much more severely over the next three years. The federal deficit is projected to decline faster than normal over the next three years, largely because tax revenue is projected to rise faster than usual. …The rapid decline in the federal deficit implies a drag on real GDP growth about 1 percentage point per year larger than the normal drag from fiscal policy during recoveries.” (“Fiscal Headwinds: Is the Other Shoe About to Drop?”, FRBSF)
See? So things
are bad and they’re going to get worse. This isn’t a secret.
Fiscal policy is DESIGNED to make things worse. It’s
deliberate! It’s all there in black and white, read it
again.
So what’s
really going on here? Why is Bernanke pretending that the
future is looking so rosy, when the exact opposite is closer
to the truth? Why is he announcing the end of a program
that may never end? Just look at the rate of inflation, fer
chrissakes! We are in a deflationary cycle. Inflation has
been dropping for 3 straight months and–according to
Bloomberg–” is at 53-year low, the lowest inflation since
JFK was in office.” That means that the Fed will not hit its
2.5% inflation target and the bond buying will continue
indefinitely. Guaranteed. Now, no matter how stupid or
incompetent you may feel Bernanke is, I assure you, the Fed
watches inflation like a hawk, and when the arrow starts to
point down, they do everything in their power to get things
going in the right direction again. They are always looking
for the sweet spot because that’s the rate at which their
constituents can rake in the biggest profits. In other
words, they take inflation (or deflation) seriously.
But if that’s
so, then why did Bernanke hardly mention inflation in the
FOMC’s announcement?
He didn’t
mention it because he’s trying to buffalo investors into
thinking that QE is going to end sometime in the near
future. But how can he end it, after all, unemployment is
still high (and likely to go higher when the budget cuts
kick in), GDP and output are weak, wages are flatlining,
capital investment is non existent, corporations and
financial institutions have money piled up around their
eyeballs with nothing to invest in, middle class households
have seen nearly half their wealth wiped out in the last
five years, and the banks have a couple trillion more in
deposits than loans because no one in their right mind is
borrowing money in the middle of an effing Depression. If
any of this sounds like an economic rebound, then maybe
Bernanke is actually telling the truth and really plans to
terminate QE next year. But I think that’s pretty bad bet,
all things considered.
So let’s cut to
the chase: The reason Pavlov Bernanke took away the punch
bowl on Thursday and put markets into a tailspin, was
because stocks are overheating and because his goofy
printing operations have generated all kinds of risky
behavior. Keep in mind, that it was Bernanke who said that
he thought that goosing stock prices would create the
“wealth effect” that would lead to a broader recovery in the
real economy. Just as it was Bernanke who signaled that he
would keep stocks from breaking lower. (The “Bernanke Put”).
In other words, investors have just been following their
Master’s lead, which is why they loaded up on stocks to
begin with. And that’s why junk bond yields dropped to
record lows. And that’s why margin debt climbed to record
highs. And that’s why all the big corporations have been
buying back their own shares hand over fist. And that’s why
the financial markets are riddled with bubbles. It’s because
Bernanke tacitly implied that he would support rising stock
prices with lavish infusions of funny money NO MATTER WHAT.
Well, guess
what? Now Bernanke is worried. He’s worried that the real
economy is still in the doldrums while bubbles are popping
up everywhere in the financial markets; in stocks and bonds,
CLOs, CDOs, MBS and every other dodgy debt instrument,
derivative or swap. It’s all getting very frothy thanks to
the Bernanke.
So, how does
the Fed chair intend to “contain” the emergent asset bubble
until he retires at the end of the year and returns to
blissful academia?
He’s going
to keep doing what he’s doing right now; cherry-picking the
data so he can rattle Wall Street’s cage every so often and
keep stocks from zooming too far into the stratosphere.
That’s the plan. Of course, he could just tell the
truth–that QE has been great for Wall Street but done jack
for anyone else. But I wouldn’t count on that.
Mike
Whitney lives in Washington state. He is a contributor to Hopeless:
Barack Obama and the Politics of Illusion (AK
Press). Hopeless is also available in a Kindle
edition. Whitney’s story on declining wages for working
class Americans appears in the June
issue of CounterPunch magazine. He can be reached at fergiewhitney@msn.com.
This article
was originally published at
Counterpunch
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