The US Federal Reserve has played a feint with the market, delaying the third round of money printing while pretending that it's more concerned with keeping long-term interest rates low.
It's precisely bonds of longer maturities that stand to suffer from the inflation that will follow the printing and debasement of currency.
So before it embarks on a third round of "quantitative easing," probably early in 2012, the Fed has launched Twist, the policy of rebalancing the Treasury market to favour longer term bonds.
Nobody knows the Treasury market better than the primary dealer network which has an exclusive right to make the market in government securities. In practice, this network comprises the banks which both control the Treasury market - and which are the chief beneficiaries of quantitative easing through which the Fed prints money and gives it to the banks in return for assets at a price they mutually agree, and the value of which the Fed will not disclose.
Getting ready to print
The public relations guys at the Federal Reserve have learned a trick. Financial journalists, dealing with numbers and lots of grey matter, often struggle to brighten their copy. Throw them a snappy name for a new product and they’ll run with it.
Operation Twist is the Fed’s latest economic stimulus programme, churning money from short-dated bonds into longer ones. With near-term interest rates at zero, there is not much else the Fed can do but try to depress longer-term yields - while getting ready to print again.
Sure enough, the tired strategy won corny headlines (Twist and doubt, was my favourite). Reasons for doubt that it will boost the economy: two per cent is the historical floor for 10-year yields; the housing market has its own problems that lower rates are unlikely to solve; large companies are cash rich and self financing and the banks won’t lend to the rest.
Lovers of musicals or Dickens know that Twist is also the surname of Oliver, the Victorian boy condemned by poverty to that early form of welfare, the workhouse.
He’s best know for holding out his empty gruel bowl and asking, "Please, sir, I want some more." To which the answer was an outraged, “What?”
Traders hoping for a dollop of liquidity were disappointed. Stock markets fell. Welfare, or state support for asset prices, was not on the Fed’s agenda this time. Although the Bank of England seems to be preparing a new round of money printing, the Federal Reserve is holding fire, at least until next year.
The Fed has printed in excess of $2 trillion, buying bank assets, increasing their reserves, but also creating a bubble in commodity prices.
One policy, three years
High oil prices are hurting consumers and driving inflation. It is not the right time to print more money, though it seems to be the only idea, the only tool in the box of western central bankers: to print money and give to the banks.
This money is not lent into the economy. The banks deposit it with the same central banks that printed it, with the sole aim of offsetting the declining value of their asset base (which the banks decline to reveal). The one policy has continued for three years.
In contrast to the Asian and Russian crises of late nineties, the leadership of the emerging markets looks more sober, today, in financial terms.
Brazil, Russia, India and China are unwilling to pump more money into the euro zone. Hopes that the BRICs would buy more bonds from euro members were fading as finance ministers met on Thursday in Washington.
They hold combined reserves of $4.3 trillion, but the BRIC countries are unlikely to put their own stability at risk by wagering their assets on an early end to Europe’s crisis.