US Monetary & Fiscal Policies

Under Fed Chairman Ben Bernanke, the Fed has been the great enabler of Washington’s fiscal excesses of the past few years. The Fed’s quantitative easing blurs the line between fiscal and monetary policies. The Fed may still be politically independent, but fiscal policy has become very dependent on the willingness of the Fed to purchase lots of government securities. A consolidated statement of the US Treasury and the Fed would show that $1.7 trillion of US government debt, which is held at the Fed, is costing the government only 0.25%. 

 

In yesterday’s WSJ, Jon Hilsenrath reported that the FOMC is likely to vote for QE4 when the committee meets on December 11-12. In September, the FOMC implemented QE3, i.e., an open-ended commitment to purchase mortgage-backed securities at the rate of $40 billion per month. The Fed’s Operation Twist is scheduled to terminate at the end of the year. Under this program, the Fed purchased $45 billion a month in long-term Treasuries, paying for them with the proceeds from its holdings of short-term debt.

Now some members of the FOMC are pushing for more purchases of Treasury bonds. However, the Fed is running out of short-term securities to sell. Hence, QE4! As Hilsenrath observes:

“The Fed has run down its stockpile of the short-term Treasurys to sell to fund long-term purchases. To keep buying the long-term bonds it would need to fund the purchases by creating new bank reserves, which in effect is printing money. That is how the Fed has funded previous Treasury purchase programs and how it is funding the mortgage-bond buying. Though critics say this could be especially inflationary, many Fed officials believe they can manage the reserves without risking inflation.”

Even more generous than the Fed have been foreign central banks. Their holdings of US Treasuries rose to a record $2.9 trillion during the week of November 7.

Let’s face it: A deal to fix the fiscal cliff won’t fix our structural deficit problem. Washington will probably avert the cliff, but continue to run insane deficits. The Fed and other central banks will continue to enable this insanity by purchasing lots of US Treasuries. Eventually, this may lead to inflation. However, the more likely scenario is that our kids will be buried under all the debt that we are leaving them. We may get a stay of execution, but the next generation won’t.

Today's Morning Briefing: Fiscal Facts & Fantasies. (1) Death row and the cliff. (2) When Harry met John. (3) Beige Book is blue about cliff. (4) There’s a not-so-grand bargain in the works. (5) Tax the rich! Many are Democrats. (6) Another apocalypse-postponed rally ahead. (7) The Treasury bond crop never fails. (8) Averting the cliff should boost growth and narrow the deficit. (9) Believe it or not: Federal spending flat for over 3 years. (10) Here comes QE4 on top of QE3. (11) Sticking it to the next generation. (More for subscribers.)

US Real GDP

Earlier this year, there was widespread concern about the slowdown in US economic growth. Real GDP rose 2.0% (q/q saar) during Q1 and only 1.3% during Q2. The preliminary official estimate for Q3 edged back up to a still anemic 2.0%. That triggered some chatter that the economy was too close to “stall speed.” There were similar concerns expressed during 2010 and 2011.
 

 In the past, whenever the y/y growth rate of real GDP fell below 2.0%, a recession followed. That strongly suggests that rolling a pair of snake eyes is bad luck for the economy. Last year’s low was 1.6% y/y during Q3. So far this year, the lowest reading was 2.1% y/y during Q2. 

 

Yet the economy is still chugging along. On Thursday, Q3’s real GDP is likely to be revised up significantly to 2.8% (q/q saar), according to the latest consensus of economists compiled by Bloomberg. That would put the y/y growth rate at 2.5%.

Today's Morning Briefing: Snake Eyes. (1) Stall speed? (2) Real GDP still chugging along around 2%. (3) Upward revision. (4) Will storm surge offset fiscal cliff? (5) Paying dividends. (6) Consumers continue to do what they do best. (7) Optimism is in season. (8) Intermodal railcar loadings at record high. So are inventories. (9) Capital spending is a drag. (More for subscribers.)

S&P 500 Earnings Expectations

The good news is that industry analysts may be ready to take a rest over the rest of the year after cutting their S&P 500 earnings expectations during October’s Q3 earnings season. They continued to lower their estimates for Q4 during the week of November 22, but they did less of that for the four quarters of next year.

Their 2013 estimate edged down last week, but should start to stabilize around $113 through the end of the year and until the next earnings season during January. For industry analysts, the long term is 2014, and their estimate for that year edged up to $127 last week, a projected increase of about 12% y/y. So while forward earnings are showing signs of stalling recently, they should be moving to new highs again if 2014 estimates hold up.

Today's Morning Briefing: Woe Is Us! (1) The bull gets no respect. (2) Will the bull hit the wall or climb it if we fall off the cliff? (3) Why Bill Gross is wrong about the death of the equity cult. (4) Professor Gordon’s new normal on life support. (5) Was the old normal really abnormal? (6) The fourth industrial revolution. (7) Grantham’s Malthusian musings. (8) Reinhart-Rogoff again. (9) Bullish contrarians should be delighted. (10) Earnings outlook remains bright despite recent estimate cuts. (11) “Lincoln” ( + + +). (More for subscribers.)

Germany

Friday’s 1.3% rally in the S&P 500 (along with comparable jumps in other stock markets around the world) was triggered by good news out of Germany. The Ifo economic institute's closely watched business climate index rose to 101.4 in November from 100.0 a month earlier. That’s after falling for six months amid the euro zone's debt crisis. It defied expectations of a renewed downturn in November as both the assessment of current conditions and business expectations for the coming six months recovered.

The improvement was led by wholesalers (from -3.2 to 4.9), retailers (from -5.8 to -0.6), and construction (from -11.8 to -7.5). The outlier was services, which fell from 9.1 to 8.5. This is consistent with the latest readings from Markit’s survey of German purchasing managers.

Today's Morning Briefing: (1) Is the correction over already? (2) Bears should think twice. (3) A yearend rally to a new 2012 high? (4) Is it the season or the fundamentals? (5) A series of relief rallies. (6) Consumer Discretionary stocks take the lead again. (7) Good news out of China, Germany, & US. (8) China’s PMI back above 50. (9) Germany’s Ifo upticks. (10) US real GDP could be revised closer to 3% during Q3. (11) “Life of Pi” (+ +). (More for subscribers.)

US Housing Market

Our Second Recovery scenario for next year received a lift from November’s Housing Market Index, which was reported yesterday by the National Association of Home Builders (NAHB). It rose to 46 last month, the highest reading since May 2006. It is highly correlated with single-family housing starts. The NAHB’s index of traffic of prospective home buyers was unchanged at a 6½-year high of 35, up 17 points since April.

Existing homes sales rose 2.1% during October after falling 2.9% during September, and remain on a slow uptrend. Helping to boost demand is that single-family home prices are starting to move higher. The median price rose 10.9% y/y during October, the fastest pace since January 2006. Rising home prices should revive long-dormant buy-in-advance attitudes in the housing market.

 

The recovery in home prices is helping to boost consumer confidence. Imagine all the homeowners who have negative homeowners’ equity, which may be turning less negative. Some of them might be able to refinance their mortgages. In early November, the Consumer Sentiment Index jumped 2.3 points to 84.9, the highest since July 2007. This improvement was confirmed by the recent strength in the Bloomberg Consumer Comfort Index.

Today's Morning Briefing: Thanksgiving. (1) Count our blessings. (2) Second Recovery scenario gets a lift from homebuilders. (3) Existing home prices up more than 10%. (4) Consumer confidence still rising in November. (5) Energy independence for the US. (6) So why is capital spending depressed? (7) The US economy is a coiled spring. (8) Risk On/Off and all that jazz. (9) What if falling off the cliff is off? (10) There’s still some energy in the global economy. (More for subscribers.)