The important point about doctrinaire ideology is its utmost rigidity. For the longest time that was relevant to the operations of central banks, as they practiced what might have been the most modern version of a new religion. From the end of the gold standard in the 1960’s (1971 was simply the last step in the process) until only recently the dominant theory on economic management was the use of interest rate policy through open-ended liquidity “threats.”
Those “threats” became “real” in the QE sense, though nothing so much as inert “reserves” that carried little actual benefit other than a psychology for convincing financial firms to not fear illiquidity. That all tied backward into what central banks saw, initially, as the primary failure in 2008 (really 2007 forward). It had caused them to enforce an initial doctrinal shift that they weren’t even aware was “necessary” away from the original founding ideal (at least for the Fed) of currency elasticity.
The reason was far more rooted than those could alleviate, owing to that basic premise that in the modern system dealers are neutral, and thus present nothing but good collateral. From that position, dealers essentially follow each other into “risky” tendencies all at the same time (chasing yield, performance, whatever in contrast to interest rate targeting’s repression), and therefore essentially make even the collateral-shaped “rescue” impossible. In other words, the behavior of central banks does not compel a “dealer of last resort” but a full “market of last resort” whereby central bank activities must become an override of nearly all pertinent market prices – if dealer holdings are prejudged for non-market reasons to be “good collateral” a central bank is thus beholden to enforce all prices of dealer holdings to be as such!
There is a pretty long argument to this effect, namely that in the modern system of shadow banking currency is so fungible as to be not only inconsistent with a mandate for “elasticity” it cannot even be predicted and classified to any degree that would offer a practical solution. That is why everything central banks tried in 2007 and early 2008 offered only superficial assurance (which they swallowed too easily). Instead, what really happened is that central banks turned from “lender of last resort” first toward “dealer of last resort” in a nod to collateralization and high financialization.
But even that was not enough, as the Fed soon found out in its eurodollar “bailout” via swaps with other central banks and then the QE’s. What central banks became was not just “dealer of last resort” but “market of last resort” whereby they had to enforce rigidity (not elasticity) in asset prices. Nowhere is that more apparent right now than PIIGS sovereign debt, but the same principle has been at work all over the globe (same for China as the S&P 500).
The intrusion of secular stagnation as a theoretical rebuke is that the assumed benefits of “evolved” liquidity are not at all what they “should” have been. However, the downside is very clear – bubbles.
Thus there has been a radical shift underway in central bank pathology that is completely undetected by mainstream comment. In one sense that offers supreme hope in that there is finally widespread internal admission that central bank theory has been misguided if not fully wrong, and has been that way for some length. However, given where we are now, they can’t yet let “markets” in on that design shift lest the paradigm movement gain disorder again (and “force” central banks to go back to being “market of last resort” to little economic avail).
The PBOC and ECB are most visible in that regard, though still setting aside open admission of this rebuke. Writing about China, Bloomberg represents exactly this point:
The operation so far is equivalent to a 75-basis-point cut in the required reserve ratio, according to ANZ. The central bank has left reserve requirements for the largest banks and benchmark interest rates unchanged for more than two years.
These two sentences are in direct contradiction to each other. The latter is correct in both a factual basis and its description of intent on the part of the PBOC. The first sentence is mainstream convention being expressed outside of this policy shift. The entire point of the Standing Lending Facility (SLF) and “targeting” not just individual banks but asset classes and even individual lending cases is to avoid a widespread “boost” to banks, credit and “markets.” In that very sense, the SLF, what the PBOC is openly admitting in its newly published details, is nothing like a “75-basis-point cut” – and that is the entire point.
The broader contention is that this change away from “flooding” liquidity is limited to only those central banks actively performing as much. That is also false.
The People’s Bank of China confirmed it pumped 769.5 billion yuan ($126 billion) into the country’s lenders in the last two months through a newly-created Medium-term Lending Facility. The PBOC injected 500 billion yuan in September and another 269.5 billion yuan in October via the facility — all termed at three months with an interest rate of 3.5 percent.
The announcement, included in the PBOC’s quarterly monetary policy statement, is the first official confirmation of earlier reports on the injections. The facility is the latest unconventional liquidity tool as the PBOC joins the European Central Bank on a path of easing even as the U.S. begins the shift to a more normal monetary policy.
Again, the last sentence above is in contradiction to what I believe is taking place even at the Fed. As I mentioned about the last FOMC meeting, they have ended all Bernanke-ism which would be perfectly consistent with the end of “flooding.” However, mainstream commentary has interpreted that to mean the end of “stimulus” when in fact it may be nothing of the sort. Instead, the Fed may be taking a more “targeted” approach having removed Bernanke’s burden toward “flooding” and bubbles.
In short, Bernanke-isms are no more at the FOMC; “forward guidance” had ended last month, and today QE3 and QE4 will likely follow. This won’t be repeated in the mainstream conversation, but the FOMC has repudiated everything that Bernanke implemented as both ineffective and, at least what they would admit in policy terms, far too restrictive.
But the real message is how it is restrictive, which is something I expressed some months ago. “Forward guidance” is only a problem if you “need” to go back to expressing “loose” policy once more. In other words, if the economy were actually on solid ground there would be no need to discard “forward guidance” since the path would be quite solid. This is further complicated by “markets” that are attached far more to the financial aspects, as Bernanke intended, than to fundamental expressions of confidence in monetary success.
Follow what is taking place with each of these central banks, as they are supplying all the clues you need to make this determination on your own. This change in policy stand is nothing short of remarkable, especially for a group that collectively disavowed the very existence of asset bubbles for decades. Reality, I suppose, has a way of catching up and rectifying or clarifying theoretical short-sightedness – to the point where bubbles now may be pre-emptively charting operational policy constraint all across the globe.
That point applies to everything outside of Japan, and I do have to wonder how much Japan’s terrible descent is confirming these management changes. That is the hope of secular stagnation as an encompassing orthodox explanation for the persistence of dissatisfaction (Step 1 is admitting you have a problem). The future problem is, of course, that it does not go far enough in offering a compelling and comprehensive clarification since the theory tries to state reality as it is (no recovery anywhere) while carefully avoiding any inconvenient (and therefore true) causation that interrupts unfortunately still-entrenched doctrinaire ideology about monetarism and especially monetary neutrality. That is why, intuitively, it comes out as convoluted nonsense (we “need” asset bubbles just to grow).
This is a warning to “markets” that have grown comfortable on the “flood” idea, acting out the ideological rigidity that may only be slightly valid. We don’t really know if central banks would relent on all this if pressed severely. Maybe that is what certain “markets” are banking on, though that is itself a far less stable and more challenging proposition than the prior foundation of monolithic and global Bernanke-isms (or Greenspan-isms).