Trump’s relentless pounding of the Fed for not pumping the stock market is concerning if not downright scary. Makes us think he is envious of the YTD 500 plus percent return of the Caracas Stock Market Index (IBVC) and wants Powell to beat it. Winning is everything even though winning may result in nothing.
More seriously, the Fed’s independence and credibility are slowly being chipped away by the White House, which is probably setting up the Fed to take the fall for the next crisis or economic downturn. We raised these concerns last July.
Quantitative Tightening had almost no impact on monetary policy, i.e., the Fed directly reducing reserves and tightening credit, but has forced the Treasury to increase the size of its monthly note and bond auctions by $300 billion (plus/minus) annually. Coupled with skyrocketing deficits, the Treasury has been floating an unprecedented $1-1.5 trillion annualized of new marketable securities during an expansion. As a consequence, long-term rates spiked in September and stocks collapsed.
It doesn’t take a Ph.D. to figure out the Treasury is now starting to crowd out markets and longer-term rates can only stay low if funding is significantly augmented with haven flows. The removal of QT will help by taking $300 billion of Treasury annual supply out of the monthly auctions.
Moreover, the debt ceiling will force Treasury, among other means, to fund itself running down its checking account at the Fed rather than increasing its outstanding debt further easing new supply and relieving pressure on long-term rates.
This is only temporary, however, and there will be a “trampoline effect” or a new supply shock once the debt ceiling debate is resolved. But, probably not before an ugly political fight. Stay tuned.