Fed buy up Euro?

[stone]

I suppose the UK printed money via QE and used that to buy up Irish government bonds so this would just be the superpower version of that :-

http://www.telegraph.co.uk/finance/comm ... aster.html

Nobel economist Myron Scholes first floated the idea over lunch at a Riksbank forum in August. "I wonder whether Bernanke might not say that `we believe in a harmonized world, that the Europeans are our friends, and we know that the ECB can't print money to buy bonds because the Germans won't let them. And since the ECB will soon run out of money, we will step in and start buying European government bonds for them'. It is something to think about," he said.

This is not as eccentric as it sounds. The Fed’s Ben Bernanke touched on the theme in a speech in November 2002 – “Deflation: making sure it doesn't happen here”? – now viewed as his policy `road map' in extremis.

"The Fed can inject money into the economy in still other ways. For example, the Fed has the authority to buy foreign government debt. Potentially, this class of assets offers huge scope for Fed operations," he said.

Berkeley’s Brad DeLong said it is time for Bernanke to act on this as the world lurches straight into 1931 and a Great Depression II. “The Federal Reserve needs to buy up every single European bond owned by every single American financial institution for cash,”? he said.

The Fed could buy €2 trillion of EMU debt or more, intervening with crushing power. The credible threat of such action by the world’s paramount monetary force might alone bring Italian and Spanish yields back down below 5pc, before one bent nickel is even spent.

[craigr]

Wasn't Myron Scholes the guy that nearly blew up the financial system with his blunders and bad theories at Long Term Capital Management? And Brad DeLong is a leftist economist.

If they're not two of last people on the planet I'd listen to for economic advice, they are definitely in the top 10 list of people I wouldn't listen to.

[craigr]

Didn't mean to sound so snarky above. I think I'm in a grumpy mood today! Thanks for the posting.  I'm glad I hold gold when I read stuff like this.

[stone]

Craigr your comment was exactly what I was think too. Myron Scholes is to me everything that needs to be kept out of economic policy. He came up with the option pricing formula and is a "great genius". He seems to view money as a means to bamboozle people out of what they worked for. Thank goodness he also is inept and LTCM imploded.

[Storm]

The ECB can and will print money when its back is to the wall.  It would be economically foolish for the Fed to step up too soon.  Bernanke would be like the rich uncle at the wedding dinner for the Euro-couple...  Just because the father of the bride spent too much money on the wedding, the rich uncle would be better off keeping his card in his pocket and letting the father of the bride put the bill on his credit card as planned.

In my opinion, Germany has too much at stake to not allow the ECB to print.  If the euro dissolves Germany will be left with the only strong currency and will be forced to compete internationally with several hungry, currency devalued exporters.  Look at Japan - it can't end well for Germany in that situation.

[moda0306]

Would we know 10% about macroeconomics as we seem to (here on this board) if it weren't for 2008's crash and the current Euro debacle?

It seems to me I probably would never have seeked out the PP or really gotten interested in currencies, bonds and macroeconomics as much if I hadn't seen the market drop and Euro coming to near-implosion.

[stone]

Japan had a big overhang of bad debt from the crazy bubble they had in the 1980s. Germany doesn't have an equivalent unless you count all the Greek etc government debt. I don't see why Germany could not just let its banks take the euro hit, go to the Deutsch Mark and Guarentee all bank deposits. German did well enough up until they joined the Euro. Exporters had to cope with the strong curency but they managed that well by making unique best of the best products.

[moda0306]

How much of a "vote" does Germany get in the ECB?

[stone]

Moda, there is stuff about the ECB constitution here:
http://www.hussman.net/wmc/wmc111121.htm

They are independant of all the eurozone states. No state gets to vote as such. But they are in Germany. It is a bit like asking how much of a vote the USA got at Bretton Woods.

[Storm]

Japan had a big overhang of bad debt from the crazy bubble they had in the 1980s. Germany doesn't have an equivalent unless you count all the Greek etc government debt. I don't see why Germany could not just let its banks take the euro hit, go to the Deutsch Mark and Guarentee all bank deposits. German did well enough up until they joined the Euro. Exporters had to cope with the strong curency but they managed that well by making unique best of the best products.

Sorry, stone, I didn't mean Japan in the 80s/90s, I meant Japan now trying to compete with a highly valued currency.  Toyota is saying it can't manufacture cars in Japan and compete globally any more.  Look at companies like Sony, Honda, and a million other great Japanese companies who can no longer compete on price with less expensive South Korean exports.

While Germany might not control the ECB completely, I think the rest of the Euro would love a bailout, so they would probably not be opposed to ECB printing.  This is just a guess, however.

[stone]

Storm, is it true that Japan is not still labouring under debts from pre-1990? I thought that the Japanese banks had been in a zombie state for decades. I'm not saying that a weak currency doesn't boost exports. I'm just saying that Germany used to cope well. Perhaps it wouldn't be a disaster if German wages increased in real terms so that German workers could aford more Greek holidays as used to be the case in pre-euro times.

[moda0306]

Is it bad that I chuckle a little bit when I see words like "labour" or "colour"?

[stone]

moda, I wish all my bad spelling was just legitimate UK spelling rather than pure illiteracy

[stone]

When comparing the Euro to say a hypothetical post euro Deutsch Mark, it does seem relevant to me that the Euro now gets used as a reserve currency and that has made it stronger and so hard for exporters (Triffins dilemma). China holds 25% of it foreign currency reserves as Euros or something like that. That does a lot to strengthen the euro. Perhaps if Germany was to leave the Euro and just threaten to buy USD etc with printed Deutsch Marks so as to partially peg the currency, then that would put off speculators and central bank accumulations just as Switzerland only needed to threaten to do that to peg the CHF to the Euro.

http://en.wikipedia.org/wiki/Triffin_dilemma

[stone]

If the euro were to be saved then I kind of wonder what it would do for other assets. If all the Italian bonds with 7.5% yields were to become as safe as US, Japanese etc bonds then that would be an incredible vacuum sucking in global money. I sort of wonder whether the PP gains this year are simply money that flowed out of bad eurozone government bonds and that all could get sucked back again

[moda0306]

stone,

I think the reason the PP has done so well this year despite stock faltering is the Euro crisis being at fault (mostly), making our bonds especially sensitive to the problems of the day.

I would imagine if some miracle came about that the PP could take a bit of a hit.

In fact, I think the PP is due for a very light year or two in terms of returns.  If you look at history, two double digit years in a row were rarely met with a third, and we are in such low-return environment that I think it's even more likely that the PP takes a year off.

[Storm]

Wow, it looks like Uncle Ben just busted out the platinum AmEx!  I guess BAC = $5 is some magic threshold when the entire world was about to go to hell in a handbasket...  We will probably never know how truly fucked the world economy was until a few minutes ago.  We will probably repeat this same thing in 2014, or as often as possible until we are utterly and truly fucked.

Still, it's a good day to be in the PP...

[moda0306]

Is this the epitamy of trickle-down-assistance to the US taxpayer/citizen or what?

"Cheaper funding" to the ECB when people are paying 6.5% on a mortgage that they can't refinance, all so that MAYBE a Greek will buy a Big Mac containing American beef, and someone in Oklahoma will keep their job just long enough to pay their loan down to being 18% underwater instead of 20% underwater?

I'm not saying I know the solution, but this seems like such a back-door way to get this balance-sheet recession behind us... stocks like it though, and I've heard that a sustainable American middle class is a lagging indicator anyway.

[Gumby]

This swap agreement really isn't a big deal as everyone thinks it is. They did the same thing in 2008 to provide liquidity. It helps in the short term, but probably won't solve anything in the long term. It's mostly just a way to keep dollar-asset interest rates low while the world clamors for more dollars. At best it gives Europe a little more time (perhaps a week or maybe a month) to get their act together.

It does nothing to fix the Euro problem. It does very little to help with bank solvency. It's really just a short term liquidity fix to help banks with dollar-denominated assets on their balance sheet.

[moda0306]

Gumby,

Except when our fed buys our 100% default-risk free bonds at 1.5% so they drop to 1%, they are really trading pure cash for a slightly different instrument.

When our fed buys European bonds, they are taking on default risk... yes, while simultaneously reducing that risk because they're acting as a lender of last resort, but if the fed is going to buy risky bonds of the world to help engineer some sort of recovery, don't you think mortgages would be more appropriate?

I'm not saying the fed SHOULD buy mortgages necessarily, but as the fed moves out into riskier assets, I say at least stick to domestic ones that directly will help the solvency of another asset class at risk of a self fulfilling debt crisis... housing & mortgages.

Besides, I'd kind of like to call Germany's bluff on this whole thing.

[Gumby]

Moda, I don't understand what you mean. The Fed isn't buying any European bonds. All they did was set up currency swap lines, to make dollars easier to get a hold of:

See:

ZH: Euro Basis Swap Perspectives
ZH: Foreign Currency Liquidity Swaps (aka Global Bail Out Plan B) FAQs

The fed swaps dollars for Euros. The Fed isn't buying any Euro assets.

(Btw, ZH has had by far the best Euro-crisis coverage over the past year. They've been spot on with their analysis way before the mainstream media outlets)

[moda0306]

Ok maybe I'm misunderstanding... the article is a little heavy on macro-lingo for me.

So essentially our fed is somehow in the business of doing some sort of currency trades with Euro banks or the ECB or something?

Even if we're buying the Euro and not the bonds, couldn't we just really be opening ourselves up to the future weakness of a collapsing or abandoned Euro?  It seems to me that if we're stabilizing a market by having our fed open up asset trades (ok, the euro itself, not bonds), couldn't we be doing that to our own assets?  Obviously there is some massive value that the fed is supplying to the market here this is most likely being recognized by the ECB.  Why don't we take those same dollars and use them in a different way for our country's citizens?

Should our fed be in the business of currency trades?

Please enlighten me where I'm misunderstanding here.  I could be very well still misrepresenting what's going on here.

[Gumby]

Ok maybe I'm misunderstanding... the article is a little heavy on macro-lingo for me.

I'm no expert. Even the people running the show barely understand it.

So essentially our fed is somehow in the business of doing some sort of currency trades with Euro banks or the ECB or something?

Rep Alan Grayson asked Bernanke about these kinds of FX swaps in 2009, after they were used in 2008.

Here's what Bernanke had to say:

http://youtu.be/n0NYBTkE1yQ

There is nothing surprising about the Fed's decision — it was expected. The only thing that is surprising about it is that it happened today.

Europeans need dollars to cover the dollar positions on their balance sheets. If you ran the Fed, you'd have no choice but to do the same thing, lest US interest rates would be driven up. Bernanke is practically rolling his eyes as Grayson fails to understand that it costs the Fed nothing to provide dollar liquidity to the world.

Even if we're buying the Euro and not the bonds, couldn't we just really be opening ourselves up to the future weakness of a collapsing or abandoned Euro?

How so? The Fed isn't going to go bankrupt if it holds worthless Euros. And the dollars technically need to be paid back at some point.

It seems to me that if we're stabilizing a market by having our fed open up asset trades (ok, the euro itself, not bonds), couldn't we be doing that to our own assets?

The Fed already provides massive amounts of dollar liquidity to US banks — that's basically what it's been doing every day since the crisis.

Obviously there is some massive value that the fed is supplying to the market here this is most likely being recognized by the ECB.

Massive value? Well, it's just a swap...albeit a very useful swap. Technically the central banks are just providing liquidity to each other. The only value I see is that risk-based assets may rise in the short term since there are more dollars readily available to buy them. This is 2008 all over again.

Why don't we take those same dollars and use them in a different way for our country's citizens?

The Fed is already doing everything it possibly can in terms of providing liquidity to every bank that needs dollars. I don't think we can expect the Fed to buy up the entire privatized world. The Fed should really only be interacting with banks. Only Congress — via the Treasury — should have the authority to hand out money to people.

Should our fed be in the business of currency trades?

Well, that's what it does. Always has. When banks need dollars, the Fed steps in. That's its job.

[Gumby]

I would also point out that the swaps are mostly designed to protect US interests. The swaps allow European banks to have enough dollars so that they can aren't hindered in making their dollar payments to US companies, money market funds, banks, etc.

[moda0306]

Thanks, Gumby... I'm going to try to absorb the fed's role here in the coming hours, days, and probably the rest of my life.

I would think that private US banks and private European banks would be perfectly capable of making currency trades to cover their positions in different currencies. 

If I run a Taco John's, I buy tortillas or I go broke!!