Small But Real Progress Carrying The Yen Carry Trade Into The Light

Bill Dudley was a key guy at the Fed for a very long time. It is very important to point this out. Not only did he hold two of the central bank’s most crucial positions, he held them during the institution’s most critical moments.

Dudley was the Manager of the system’s Open Market Account in August 2007. On the seventh of that particular month, as Desk manager, Bill relayed to the assembled Federal Open Market Committee (FOMC) members and their gargantuan staff how “nothing is really imminent” in the area of subprime and specifically commercial paper.

Two days later, on August 9, the entire commercial paper market began to collapse. It still hasn’t recovered.

In October 2008, as the worst of GFC1 was setting alight the world all around, still at the Open Market Desk, Bill Dudley bragged to the FOMC how IOER would put a floor under the fed funds rate which had been too low at the time. A floor was needed, Dudley reasoned, because this would help relax the devastating crisis conditions. IOER did no such thing, of course, and as the crisis only worsened the fed funds rate sank even lower (how’s that for an interest rate fallacy!)

These were no small things and I could actually go on and on with poor Bill. In time, Dudley himself would go on after all these major failures, failing himself upstairs to the top job at FRBNY (where the Open Market Desk is operated) – you see what I mean about the Fed. You might even begin to get the impression these people don’t seem to know much about how the monetary system actually works. 

The story of his time in that place was the QE story; the Open Market Desk doing most of the QE work. Trillions in bank reserves were created under his watch which was, many people kept saying, money printing. Nope. Nor sir.

As I’ve pointed out many, many times, if you actually ask a central banker this question directly, they will admit to you it’s not (though you’d probably have to point a gun at one to get them to answer the question honestly and directly). QE isn’t money printing.

But if it’s not money printing, what the hell is it?

There’s a ton of academic literature on this very topic. And in terms of describing what QE is supposed to do – not money printing – it’s incredibly straightforward. Does it work? The Economists do their absolute best to stretch the meaning of “work” and even then their results are at most inconclusive.

Before getting to those, first what QE actually is: just two things (again, neither one is money printing). By removing largely riskless assets from the hands of the banking system, monetary officials hope those same banks will by choice or lack of other options replace those assets with risky securities or, best, lending into the real economy.

This is called rebalancing, or portfolio effects.

The second reality of QE is…purposeful use of the myth of money printing. Economists and central bankers don’t call it lying, obviously, instead this is branded as signaling. And with QE, as opposed to something like simple rate cuts, there is the byproduct of bank reserves which aids in the lying (I mean signal).

Understanding its two, and only two, channels, let’s go back to Bill Dudley this time in January 2014 for his assessment of QE’s performance to that point:

We don’t understand fully how large-scale asset purchase programs work to ease financial market conditions, there’s still a lot of debate …Is it the effect of the purchases on the portfolios of private investors, or alternatively is the major channel one of signaling?”

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Disclosure: This material has been distributed for informational purposes only. It is the opinion of the author and should not be considered as investment advice or a recommendation of any ...

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