Yellen Challenges Powell’s Control of the Market

Yellen Challenges Powell’s Control of the Market

The Fed attempts to maintain control of various rates (including inflation, unemployment and long-term interest rates) through its monetary policy decisions. In the past, poor choices arguably led to both the dot-com bubble and the Great Recession. But that’s old news.

Today, Fed Chairman Jerome Powell is trying to get the U.S. economy moving. A combination of near-zero interest rates and “quantitative easing,” which means buying bonds directly. Both these interventions increase the amount of money in circulation. Ultimately, this would lead to inflation, as you’d expect.

And of course, inflation is closely tied to market rates. In response to the pandemic, the Fed rate policy that Powell currently advocates is keeping money market rates close to zero for an extended period of time. The Fed also seem to intervene quite a bit, attempting to maintain tight control on those rates.

Powell has to balance economic recovery and employment against market bubbles and excessive inflation. That’s a lot of balls in the air… What if one drops?

Unleashing a “tsunami” of cash

Enter Treasury Secretary Janet Yellen, who just threw a big monkey wrench in Powell’s plans to maintain any semblance of tight control over rates. What did she say? As Newsmax reported:

Already low short-term interest rates are set to sink further, potentially below zero, after the Treasury announced plans earlier this month to reduce the stockpile of cash it amassed at the Fed over the last year to fight the pandemic and the deep recession it caused.

That sounds sensible, right? There’s just one problem: the Treasury is planning to “unleash what Credit Suisse Group AG analyst Zoltan Pozsar calls a ‘tsunami’ of reserves into the financial system and on to the Fed’s balance sheet.”

To make matters worse, all that money has to go somewhere. Manmohan Singh, senior economist at the International Monetary Fund, explained like this:

All this cash from the Treasury’s general account will have to go back from the Fed and into the market. It will drive short term rates lower, as far as they can go.

We’ve seen negative short-term interest rates before. This effectively means banks have to pay money to the Fed to keep their cash for them. Back in 2008, negative short-term interest rates paralyzed business lending and resulted in a money market fund losing money, “breaking the buck.” 

But it gets worse.

More money, more inflation

Excess money supply causes inflation. And the official cash balance sheet at the Treasury is about to fall by hundreds of billions of dollars as they flood the market with cash, according to a Bloomberg piece.

If this plays out as expected, experts seem torn on what will happen to the U.S. dollar. Some think there will be downward pressure, still others see it as a “non-event.”

Lou Crandall, chief economist at Wrightson ICAP LLC, called the Treasury move an inevitable “day of reckoning for the Fed.”

Using the Fed’s “Toolbox” Could Get Complicated for Powell

The official Fed balance sheet sits just over $7.5 trillion. It seems like not that long ago, the Fed had a “record of over $5 trillion” and Powell claimed there was no limit to its lending power – except the Treasury Department’s willingness to pay for it.

Seems like he was right about that.

Based on Powell’s testimony last summer, he never even anticipated the need to sell. Via the Washington Post:

Testifying before the Senate Banking Committee, Fed Chair Jerome H. Powell was pressed by Sen. Patrick J. Toomey (R-Pa.), who asked why the Fed was continuing to intervene in credit markets that are working just fine. “If market functioning continues to improve, then we’re happy to slow or even stop the purchases”, Powell replied, never mentioning the possibility of selling off the bonds already bought. What Powell knows better than anyone is that the moment the Fed makes any such announcement, it will trigger a sharp sell-off by investors who have become addicted to monetary stimulus. And at this point, with so much other economic uncertainty, the Fed seems to feel it needs the support of markets as much as the markets need the Fed. [emphasis added]

Powell may be facing his own worst nightmare.

In the coming months Powell will be faced with a complicated decision. It appears he will only have limited use of the Fed’s main tools, thanks to the pandemic recession, near-zero interest rates and Yellen’s decision.

And expert perspectives aren’t hopeful… “This is going to bring to a head the consequences for the money markets of the dramatic increase in the Fed’s portfolio,” said Lou Crandall.

Negative short-term interest rates could be only the tip of the iceberg. We just might be looking at the end of what Bloomberg called “the everything bubble.” All of that sounds like a bumpy road ahead, and your best bet is to ensure your portfolio doesn’t get caught up in the mess.

Your Own “Toolbox” Can Be Simple

Powell and Yellen might be steering the U.S. economy straight into the iceberg. Fortunately, it’s not too late for you to build your own financial lifeboat with proper planning and diversifying your savings. Start getting yourself and your family ready while you still have options.

Take a long hard look at your savings, then consider retirement plans that include diversifying with precious metals like gold and silver.

Peter Reagan is a financial market strategist at Birch Gold Group. As the Precious Metal IRA Specialists, Birch Gold helps Americans protect their retirement savings with physical gold and silver. Discover more by clicking here now.

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