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Jim Cook



Every once in a while I switch the TV channel from Fox to CNBC to see what the liberals are saying.  After listening awhile I get a deep sense of hopelessness and foreboding for our country.  The most important thing for the left is giving money to people.  They are happy to see the growth of food stamps, disability payments, housing subsidies, free healthcare and all the other welfare benefits.  They utterly fail to see the damage it is doing to the recipients.  Whole cities that once flourished have deteriorated into rotting eyesores populated with shambling hulks of chemically dependent drones.  These people are no longer employable.  They have become incompetent and helpless and the liberals can’t see that it’s their doing.

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The Best of Jim Cook Archive

Best of Doug Noland
September 7, 2011
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“Activist” central banking has been the nucleus for overstating the effectiveness - and over-promising – with respect to both monetary and fiscal policymaking.  Markets and citizens alike had over years been conditioned to believe that enlightened policy ensured economic stability and rising asset prices.  Accordingly, risk and leverage were readily embraced.  These days, central bankers are trapped – the markets fully appreciate that they have them trapped – and it’s going to be fascinating and unnerving to watch how this all plays out.

And while the ECB has badly deviated from its core principles, it does at least have some to anchor policymaking.  The Bernanke Fed is completely lost at sea.  Markets will now anxiously anticipate the FOMC’s September 20/21 meeting.  A divided Fed will contemplate additional stimulus measures, including more quantitative easing.  There will be intense pressure to do more to support a faltering “jobless” recovery, with the expectation that Chairman Bernanke will carry the day and ensure a backdrop sufficiently loose to accommodate additional fiscal stimulus. 

Unlike the Europeans, the markets have yet to impose austerity on Washington.  And while both European and American economies have demonstrated recent weakness, in contrast to Europe our feeble recovery will continue to be underpinned by lavish federal spending.  US stocks have significantly outperformed European bourses this year, and there remains considerable confidence that our monetary and fiscal measures can support economic expansion and higher stock prices.  As I wrote a few weeks back, it is not difficult for most U.S. investors to remain complacent.

At the same time, the global financial system comes under added stress each passing week.  The euro again came under pressure this week.  The euro has been notably resilient for the past several months, but I worry that this has only provided an opportunity for additional hedging in the marketplace to protect against potential euro weakness.  Part of my analysis is that huge derivative protection (put options and such) has accumulated that would tend to increase the vulnerability of the euro to an abrupt and destabilizing decline (if key technical support levels are broken). 

It has been part of my thesis that the global financial system has been especially vulnerable to de-risking and de-leveraging dynamics.  I believe markets have absorbed the first phase of de-risking/de-leveraging, with meaningful stock market declines, surging Treasury prices, a widening of Credit spreads, a tightening of general financial conditions and a downshift in economic activity.  Importantly, this “first phase” was accompanied by significant currency market volatility - but not dramatic changes in most currency values.  In particular, the euro and U.S. dollar have traded in relatively tight trading ranges for several months now, at least partially explained by ongoing market faith that global central bankers are keen to ensure liquid and stable markets.

If current financial tumult evolves more into a 2008-style event, I would expect the next phase of de-risking/de-leveraging to be accompanied by increasing signs of dislocation in currency markets more generally.  The big question remains unanswered:  how big are global currency “carry trades” (short low-yielding dollar instruments to fund higher-returning assets abroad)?  And an important part of the thesis is that we’ve reached the point where reflationary policymaking will tend to only increase uncertainty and further destabilize unsettled financial markets.  Both the Fed and ECB are at respective policy crossroads and markets have ample reason to fret.  Confidence is wearing thin.