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2022-06-15 07:00 by Karl Denninger
in Monetary , 1507 references Ignore this thread
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..... we "celebrate" The Fed decision on rates.

Well, yeah, ok.

The 13 week bill says the FFR should be 1.5% now.  As has almost-always been the case historically (go look at FRED if you don't believe me) the market leads and The Fed is not actually in charge of rates. Of course this runs counter to the "all-powerful Fed" which suits everyone on all sides.  The politicians and conspiracy nuts get to blame someone else for an agency that follows what the market demands because if it doesn't it is proved impotent and takes a huge loss on top of it.

Unfortunately 50 bips will do nothing to cool inflation; to do that short-term rates must be higher than the inflation rate so that the real cost of borrowing is positive.  That would mean putting about 700bips on the FFR right here and now -- which we know won't happen.

Then again this has been the problem for the last 30ish years.  The slope of the interest rate curve has gone from the upper left to the lower right and thus serial refinancing at the corporate and government level, say much less at the personal level, has looked "free."  That's the sneaky part of inflation which I explained back when I wrote Leverage with a nice graph.  When you run a deliberate inflationary policy over decades the first years look like a free lunch because the apparent "wealth" initially goes up faster than the debt service (which is on a smaller base) and thus produces a "belly" (an area of expansion of the space between the two lines of available spending power and debt service.)

This is a chimera and to intentionally run such a policy as a business or government is fraud because all exponential expansions eventually go vertical, and the debt service will eventually cross available funds at which point you're screwed since you cannot spend 110% of what you have -- ever -- no matter what you do.

It's happening now.

At the core what The Fed does is not the question.  It's what Congress does.  The Fed is constrained to use only Federal Government backed securities for its monetary operations and policy.  Yes, it has shaved that repeatedly, most-egregiously with Fannie and Freddie paper during the housing crash which at the time was wildly illegal yet not one person in Congress called them on it nor did anyone from the Executive (e.g. DOJ) stop it despite its blatant illegality.  Then Congress went even further and, for all intents and purposes, explicitly backstopped said paper on a retroactive basis which is also illegal, but heh, nobody cared because it was "too big to fail."

Of course that's a fraud too; "too big to fail" is another word for monopoly when you get down to it.  Which, I remind you, is also illegal and has been for over 100 years -- go read 15 USC Chapter 1.

What The Fed is trying to do right now is reverse the last ten years, more or less, of wildly-inflationary policy which was put into place to paper over the frauds in the housing and credit markets back in 2008.  The so-called "prosperity" that resulted from the wild expansion in asset prices led people to spend because they "felt good."  That's ok such as it is, provided it doesn't put into the system distortions that screw the common man.  Unfortunately there is no such thing as a free lunch and screwed you were -- and are.

The Fed does not know and neither does anyone else where the balance point is; by wildly expanding their balance sheet in the name of "QE" they've emitted trillions of credit into the economy, and exactly how much of it has to be withdrawn through running off said balance sheet along with rate increases before the inflationary ardor cools is not known -- nor can it be known.  This was a "grand experiment" that should have led The Fed to being kneecapped more than ten years ago but of course nobody in Congress (which has the power to do so any time it would like) was interested in doing it -- including people like Ron Paul -- because doing so meant the asset price inflation they were all loving would immediately reverse back to where it was and that would have been "bad."

So now we have a much worse situation.  Asset prices, especially those of nothing more than hot air, always go up first and most in an inflationary spiral because there is no base against which to value them.  The "promise" of another stock buyback or blowing billons of dollars worth of electricity solving math problems to "mine" something that has less value than piss (you can at least turn urine into fertilizer) has levitated such assets, and the "feelz" from same has driven things like Real Estate to ridiculous levels.

That's all going to come back out folks -- it is simply a matter of whenThe recent PPI report makes clear that irrespective of what The Fed does it will be 12 months or more before inflation subsides and for every month they fail to get the excess liquidity out of the system that's another month of the insanity we will have to endure.  Note that PPI table showing nearly fifty percent unprocessed goods inflation.  Not five, not ten, fifty and its been right around there for the last year.

Today?

All things considered I expect 50bips later today.  It should be about 200bips right here and now, which is safely less than what needs to be done but would allow a calibration to be taken over the next month, to be followed by another 200 in July.  We might, with those plus the actual runoff being allowed to go unimpeded at the announced point, find at least the first indications of an inflection point.

Oh, and about a halving, roughly, of real estate prices too.

You didn't buy anything in the last two years in that sector (never mind financial assets) -- did you?

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Katniss99
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My house went up for sale 6/1. I only had 1 offer made, and it went under contract last Friday. Sure, only 10 days on the market, which is not long. But even 3 months ago, 5 houses in my subdivision were selling for over listing price (crazy bidding wars) and going under contract in 1-3 days tops. And I live in SE TN where tens of thousands of people are moving to from Commiefornia and other crapholes. The bottom is about to fall out.
Blanca
Posts: 434
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You called these necessary rate increases.

Raising interest rates will result in asset deflation and demand side destruction. Unfortunately, through ridiculous virtue-signaling policies, there has been a lot of supply side destruction. Green energy, sanctions on energy producing countries, lockdowns, stupid wars, etc. are also causing price increases.

It's going to be ugly. Sadly, our leadership at the government, corporate, and academic levels is corrupt and foolish, so we can't expect reasonable responses to what plaques us. It is just as likely to pass laws and spend money that will make things even worse.
Thomasblair
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NC
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Bring on the RE crash. I've got cash and have been looking to get something a little bigger to accommodate a growing family.
Media_guy
Posts: 37
Incept: 2021-10-15

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I bought Jan 23 OTM puts on BNTX, NIO, LCID, GME, NKLA and am becoming very impatient :).

Burn this thing down already.
Invisiblesun
Posts: 547
Incept: 2020-04-08

Maryland
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Globalization has failed and with it the FED model of deflationary producer prices is ruined. Oh, the USA could have reasonable energy prices now but we are selling oil and gas to Europe, because they voted not to buy from Russia. Funny that Biden whines about excessive profits. The excessive profits are due to the idiocy of his administration and the stupidity of the EU! I suppose Biden is mainly angry because he's not getting his 10%.

So the FED can no longer cut rates to save the financial markets. Yet asset prices are still way too high! Houses were being priced at 2% rates and purchased with "free" Covid money. Now rates are 6% and there is no freebie.

It's just as bad for the financial markets. Prices are so out of whack with fundamentals only the belief in unicorns is stopping an immediate 25% markdown.

I think the FED response only matters for perpetuating the illusion of hope. I think a 2008-2009 outcome is the best that can happen. Prepare for the under.

Cmoledor
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Always easy to understand explanations of the insanity weve been seeing lately that started decades ago. My money is on they will do exactly opposite of what needs to be done. Every. Single. Time.

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Frat
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Quote:
You didn't buy anything in the last two years in that sector (never mind financial assets) -- did you?


Nope.

But we did do a refi knocking off 5+ years and roughly 2% on the interest rate, and with the current (really easy) extra principle each month am looking at 14 years total (13 left), not 15. To make it better as long as one of us keeps our current income we could still pay it, albeit with likely dropping a car and tightening all belts.

We're in as good a spot as we've ever been that way, although "good" is a really relative term. I don't think anyone who isn't making $500k+ a year is really in a good spot to weather this storm, unless they've already prepared and are good living very simply. There are several in The Bar I could name but won't, out of respect for them and what they've accomplished.

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Calrissian
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London, UK
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The break in the US 10yr >3.25% is decisive.
The door has opened to psy' 5.00%, with secondary of 7.00%

More than anything, will be fascinating to see how high food and energy inflation reaches by late summer/early autumn.
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Mikey
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20+ years ago, I told the wife I wanted to buy a house that either one of us could afford - not one that required both of us to be employed. Refinanced twice to lower rates, but never changed the end date of the original 30 year mortgage. It looks like that was the best call we could make now.

We are watching new owners around us dig deeper and deeper. They're too young to remember 9% rates. This is going to hit them like a truck. Wait till auto rates creep up more. This is going to be interesting to watch, and it will impact even the prepared.
Greenacr
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Northern Ohio
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If the Fed goes 50 BPS than they are not serious about taming this inflation situation right now. Although I don't know how QT and running off their balance sheet impacts this. Does QT amplify a rate hike?

Seems like the market is pricing in 75 BPS so if they only go 50 are we due for another down day?

Seems to me if Powell wanted to channel his inner Volker he would go a full point with another one in July.
Dingleberry
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Many, many thanks to TG for his very prescient warnings. I prepped myself as best I could over the years, and am as ready as can be for the financial whirlwind which we have wrought. If you don't have extra savings, an extra freezer (or two) plus weapons to defend your home with......you are well behind the 8-ball.

For whatever reason, the USDX is incredibly "strong", but all fiat is buying much less. I suppose things would be even worse if our dollar was falling relative to the other fiat turds, so maybe that is keeping "official" inflation under double digits, at least for now. I suppose we should thank Europe and Japan for having even more economic insanity than us, which is very hard to do. Japan should be placed on suicide watch, they seem hell-bent on destroying their currency.

Just think...we haven't even started implementing QT. That should work wonders for the RE market. I have read there is almost zero bid for MBS. My guess is interest rates will probably be 8% this time next year, or higher. Bye bye home equity.

If you need to have a few laughs.....go over to reddit and read some comments on crypto (aka the millennial Beanie Baby). Seems like their retirement plans have gone "poof". Poor sods. I tried to warn a few of them that the easy (early) money was already made, but I may as well try to reason with a karen. As an older guy, I was told that "you just didn't understand bro, it's the future! Stop acting like a boomer, bro!". The Celsius debacle (ponzi) is Madoff part Two, complete with "guaranteed" outlandishly high interest returns. Consider it tuition. They learned, but the hard way. Like the rest of us soon will.

Caton
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A few days ago I talked about activist funds.

As an employee representative, yesterday I attended the Supervisory Board for employee saving funds managed by a French asset management company.

These funds are activist investment funds: their stated purpose is to influence the companies in which they invest to improve their Environmental and Social policies, as well as their Governance. Their main objective now is to push the companies in which they invest towards a socially acceptable energy transition, whatever that means.

Those funds are posting losses of 8% to 20% over the first 5 months of 2022.

The most interesting in this supervisory board was their economic forecasts: they anticipate inflation in the euro zone of 8.1% annualized in September, which should drop to 3.1% annualized and sustainable in early 2023. They are planning massive intervention by the ECB (increase in key interest rates) for this, which should have no effect on the sustainability of the debts of European States before 2024... after that, who knows?

Most annoying were the assumptions on which they based their forecasts: no problems for the US economy, no real estate crash in China, no wage increases, an end of the war in Ukraine before the end of the summer and no social disorders in the EU.

The end of the year is going to be... interesting.
Sraven
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Dallas
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It is always worthwhile to read Denninger first in the morning
Invisiblesun
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Maryland
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@katniss99

I think my neighbor was a day late in putting their house on the market. It is a legitimate $1 million property and two months ago there was a possibility of it selling to a frenzied buyer for $1.75M. The for sale sign went up last week and I don't see any buyers. I will be very curious what type of haircut they accept off "the peak" imaginary price.
Superdude
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Ha, been checking savings accounts interest rates... still 0.01 percent to 0.07 percent... Amazing how the average American citizen isn't pissed about this as they are spending everything they got and the banks won't pay out anything.
Larryboy
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Windsor Colorado
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Bask Bank in Dallas raised their savings account interest rate to 1.5% yesterday.
Blanca
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5 Year TIPS look decent now - finally a positive return (0.6%) after several years of deeply negative returns (nearly -2.0%). Beware of having these in a taxable account due to having to pay tax on income not received until maturity.
Weareplucked
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1% hike translates to about 300 bil additional gov. deficit.

So 200 bp this month then 200 next = 4% = 1.2 tril additional deficit.

Aint happening.
Tickerguy
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I really wish people would stop being stupid @Weareplucked. First post and if you don't start thinking before speaking it'll be a very short tenure here.

No, it doesn't work that way and if you don't understand way go sit in the corner and do some work before opening your mouth and displaying your idiocy for everyone to see.

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Twiggler
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@katniss99 wrote

Quote:
And I live in SE TN where tens of thousands of people are moving to from Commiefornia and other crapholes.


I have a co-worker who decided to sell, buy, start building and move to where he wants to retire which is extreme SE TN when our company went offsite during the Coofy startup. He is always telling me that just about every week someone from out left moves into the area where he's building.

Onelegged
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I am guessing they may go as high as 100 points.

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All The News That Fits, We Print.

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Baltgayveteran
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Baltimore, MD
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I'm curious what you think the actual inflation rate is. I know you consider Shadowstats to be BS regarding inflation, but then again so is the government figure.

Also, how big a factor in inflation are the supply side problems?

Many thanks for all your articles.
Tickerguy
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@Baltgayveteran - The biggest distortion in the BLS CPI data is found in Owner's Equivalent Rent. Back that out, use y/o/y home prices and recompute.

Here's the nasty: OER is wildly deflationary (vis-a-vis reality) in a declining rate environment. It is exactly the opposite in a rising rate environment, by the same amount.

In other words in the world we're in TODAY it is going to tie The Fed in knots, never mind everyone else.

There are also other significant impacts found in the weighting; they've "fixed" some of it over the years, but health care was one of the monster bullshit areas for a long time.

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Indianarube
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At what point is the pond half covered?

A reference to a very old ticker that may not be relevant yet. It will be.
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