Written by Lance Roberts, Clarity Financial
Since the Fed meeting in July when they cut rates by 0.25%, the Fed has been working diligently to lower expectations of further rates cuts. As noted, this is because the Fed understands the trap they have gotten themselves into.
- With just a bit more than 2% between the current Fed funds rate and ZERO, the Fed understands what little bit of precious ammo they have to fend off the next recession.
- They won’t go “negative” on rates.
Please share this article – Go to very top of page, right hand side, for social media buttons.
Concerning the second point, my colleague Daniel LaCalle summed it up well:
“The paper ignores the collapse in net income margin and ROE and even dismisses ROTE (return on tangible equity) to try to defend the idea that banks earnings have not suffered from negative rates.
The worrying part is that these statements ignore the fact that one of the main reasons why banks’ bottom line has not fallen more is they have almost stopped making provisions on bad loans.“
His point is critically important.
Negative rates have irreparably damaged European banks, which only can be resolved through a massive debt revulsion.
The Fed is at least smart enough to understand this dynamic, which is why they are defending what room they have with the one rate they can directly control.
Wolf Richter also had some excellent points in this regard:
“Negative interest rates drive banks to chase yield to make some kind of profit. So they do things that are way too risky and come with inadequate returns. For example, to get some return, banks buy Collateralized Loan Obligations backed by corporate junk-rated leveraged loans. In other words, they load up on speculative financial risks. And as this drags on, banks get more precarious and unstable.
This is not a secret. The ECB and the Bank of Japan and even the Swiss National Bank have admitted that negative interest rates weaken banks. The ECB has even been talking about a strategy to ‘mitigate’ the destructive effects its policies have on the banks.
So that’s the issue with negative interest rates and banks. They crush banks.”
Don’t forget.
Why did the Fed launch Q.E., and cut rates to zero, to begin with?
To bail out the member banks of the Federal Reserve, or should I just say, “Wall Street.”
Interest rates are a function of economic growth. Globally, despite massive levels of QE, and low interest rates, economic growth is faltering, not strengthening.
The Fed does understand this.
Unfortunately, the Fed is still misdiagnosing what ails the economy, and monetary policy is unlikely to change the outcome in the U.S., just as it failed in Japan. The reason is simple. You can’t cure a debt problem with more debt. Therefore, monetary interventions, and government spending, does not create organic, sustainable, economic growth.
Simply pulling forward future consumption through monetary policy continues to leave an ever growing void in the future that must be filled. Eventually, the void will be too great to fill.
If rates ever do rise, it’s game over as borrowing costs surge, deficits balloon, housing falls, revenues weaken, and consumer demand wanes. It is the worst thing that can happen to an slow growing economy that is dependent of further debt expansion just to sustain current growth.
As Wolf noted, lower rates are not the solution, they are the problem.
“So far, the outcomes are already bad, and now, because the outcomes are already bad, they’re wanting to drive interest rates even lower to deal with the bad outcomes that these low interest rates have already caused.”
If you need help or have questions, we are always glad to help. Just email me.
See you next week.
Note: This articcle is a continuation oif the discussion yesterday, Negative Yields Everywhere.
.
