Bravo Christine Lagarde! Assertive IMF opens dialogue over FED policy
By Christian Takushi MA UZH, Sat 6 June 2015
C’est magnifique: For the first time in years an accomplished leader steps forward to speak up to initiate open dialogue on a issue that matters to us all.
Although I disagree with the suggestion by the I.M.F.’s chief, Christine Lagarde, to the FED: to wait with any rate normalization, we have to welcome a more assertive IMF. This is a great achievement by Christine Lagarde – a contribution to the world economy and the financial system. We have been needing this for over a decade. In recent years markets have become like a huge herd of sheep following the FED ever more closely and listening to every single whisper or lack of by the FED chairperson. Over the course of my 25 years in the investment industry I have seen a steady decline of independent thinking. Mrs Christine Lagarde has had the courage to break out of this closed ranks’ culture to step forward and tell the FED (in my own words:) “Please, look at the effect of U.S. Monetary Policy on the rest of the world. And by the way, you may want to reconsider the timing of the first rate hike”.
Now, let’s not get too obsessed and unfair with Mrs Lagarde about the recommendation itself, after all she could be right. The fact that someone has “dared” to speak up to the FED is an amazingly refreshing event. Rare in today’s world of “popularity-seeking”, “closed ranks” and “make no mistakes to move higher”. Mrs. Lagarde deserves our respect and gratitude for her courage. The FED could be wrong indeed: No one is infallible and I personally believe Mrs Yellen is humble and sensible enough to deal with this intervention. There is no problem between these two professional leaders. What is troublesome is the way many lucid thought-leaders in the financial industry have reacted – bewildered and even a bit offended. Indeed, since Mr. Greenspan’s term, institutional investors have come to see the FED and Treasury as one of their own. Since the 1990’s the FED does whatever it takes to support equity markets and to have the economy go from boom to boom, recession is seen as failure. Here some typical reactions we’ve seen to the IMF’s comments this week:
“How dare anyone speak to the (read: our) FED”
“Have you seen it, I mean, can you believe it? Lagarde has dared to lecture the FED in public”
Mrs. Lagarde did only speak straightforwardly. It is strange financial media did spread the news that Mrs. Lagarde had lectured the FED.
These reactions say more about the state of mind of the financial industry and financial media 6 years after the Great Financial Crisis, than it does about Mrs. Lagarde. Even Mr. Mohamed El-Erian, who has rightly pointed out that the exact timing may not be so important – rate normalization will be very shallow and gentle, seemed to be kind of upset about the sudden movement or volatility Mrs Lagarde had brought upon Global Bond Markets. Money managers should be used to debate, action and volatility. What Global Bond Markets need is actually more volatility, more competition of opinions and more open debate. Financial markets speak indeed about free competition, but they actually practice the opposite. Implied volatilities in Financial Markets are record low, because the FED has artificially driven volatilities to zero to induce investors to take more risks and leverage. Thus, we have professional fund managers complaining about Mrs Lagarde moving Bond Yields 10 to 20 basis points. One might even think: we are such a spoiled generation handling the world’s finances, we can’t seem to even handle a respectable woman making a straightforward statement in a polite & correct manner. The FED is kind of “babysitting” professional money managers for two decades now via an excessive and dysfunctional guidance, and it is risky. The shocks and crises that are coming our way, will therefore overwhelm them. Yes, the FED is part of the problem. The crises that the world will likely face over 2015-2018 are too complex and powerful for the FED to control. And when money managers will see the FED overwhelmed, they will freeze or panic. The FED is letting financial professionals feel that the world is a safe place, because they have the FED. Does a record low Volatility reflect the high level of uncertainty in the world?
Now to the request of the IMF. The IMF is concerned about the fragility of the global financial system and that a premature rate hike by the FED may kill the recovery. But the IMF’s unconventional public request shows also to some extent the concern it has for the recovery of the big loans it has given in recent years to countries now in protracted crisis. The IMF knows that more than 2/3 of mankind is living in economies that are expanding – even if some of them are in a weak spot, nevertheless recessions are part of a healthy business cycle. And trying to fight and avoid recessions creates huge monetary and ethical problems, much bigger than recession itself. Let’s remember that as Prof. Schumpeter taught: recessions clean up the system, ill-prepared and overstretched (unfit) firms go under. Other firms come out from it stronger and fitter. And as long as central banks print money to keep rates at zero, governments will not address painful structural reforms. Thus rate normalization is necessary; macroeconomically, politically and most of all ethically.
Let’s also be fair to the IMF. Many of those IMF loans were given as part of political deals, not because those nations had effectively begun to lay sound macroeconomic foundations for recovery and sustainable growth. Take Ukraine loans as an example. If we look beyond the US and EU, the World Economy is doing OK and is robust enough to take a rate normalization. I believe even the US and EU could handle it. It is the financial system with its inflated asset prices (bonds, stocks etc) that are vulnerable. The G7 have maneuvered themselves into something that is worse than a Japanese style “Liquidity Trap”. Japan did not keep consumption going via inflating financial asset prices. The FED has.
The sooner Mrs Yellen normalizes rates, the better for US economy. Asset prices will correct, excessive wealth-effect consumption will disappear, and GDP growth shrink back to trend over a few quarters. But the dynamic US economy would recover swiftly. Normal rates send healthy signals to businesses, consumers and savers. Is “zero rates” that great? Businesses are not investing, well-off American households are spending even less than last year, savers that were forced to speculate aren’t spending that money; zero rates tell them, the economy is in danger zone! Zero rates are only good for a short time, after that the disadvantages exceed the advantages.
In a dark and frightened world, highly over-managed and under-led, with so much uncertainty and fear in the eyes of so many, to see a woman like Mrs. Lagarde step forward like this is a reason for hope. I don’t think she is too worried about who is right, she comes across as someone that simply cares about people more than her own job. Absolutely refreshing to see someone that challenges the status-quo and consensus. Il faut dire: Bravo Christine Lagarde!
Christian Takushi MA UZH, Macro Economist, Switzerland, Saturday 6 June 2015
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