The FOMC Mistake is Ready for Wednesday

First and foremost, I would like to apologize for the budget Photoshop job, but I couldn’t afford better quality due to the high rate of inflation.

With that being said, let us all prepare for what had best be a nothingburger tomorrow or Jay Powell & Co. could easily drop some gasoline, matches, and TNT on a very, very fragile equity and bond market.

The financial media will have everyone believe that this is one of the highest stakes FOMC meetings in history, but unfortunately they always conveniently forget what has happened in the past.

In May of 1927, the Chairman of the Federal Reserve Benjamin Strong decided to engage in a policy to re-stimulate the inflation inside of the US economy by cutting the Discount rate at the Federal Reserve Bank of Chicago from 4% to 3.5% (then eventually all banks) while at the same time engaging in what is we now call “Quantitative Easing.” From the Federal Reserve Bank of St. Louis, Responsibility for Federal Reserve Policies 1927-1929, by A.C. Miller (link is to PDF):

The policy began in May, 1927, with purchases of United States government
securities by federal reserve banks, which carried their holdings from
$300,000,000 in May to $600,000,000 in December. As a result of these operations member banks were able to meet gold withdrawals of $200,000,000 and to increase their reserve balances by over $100,000,000 without being under the necessity of increasing their borrowings from the reserve
banks (Chart 3).

Discount rates at all the reserve banks were reduced from 4 to 3 1/2 per cent during the third quarter of the year. Money rates in the open market soon declined (Chart 4), sterling exchange advanced, and in time there was a considerable outflow of gold from the United States to other countries.

The emphasis is mine to see if this jogs anyone memory as to what has been happening since 2020.

Perhaps this excerpt from the Mises Institute might ring a bell also:

The most unusual aspect of the Federal Reserve-generated inflation of the 1920s was its creation and subsidization of the acceptance market in the United States. Commercial paper in the United States had always been confined to single-name promissory notes, often discounted at commercial banks. By contrast, in Europe and particularly in Britain, foreign trade (not domestic) was habitually financed by the mechanism of an endorsement of the debt, or acceptance. The acceptance bank endorsed and purchased the note and then sold it to a “dealer,” or bill broker, who in turn sold it to a commercial bank for discount.

From the inception of the system, the Federal Reserve set out to bring a thriving acceptance market into being by massive subsidization. Since there had been virtually no naturally arising acceptance market in the United States, the demand for acceptances by discount banks was extremely slight. The Federal Reserve, therefore, undertook to buy all acceptances offered to it, either by the member banks or by a tiny group of designated dealers, and to buy them at a very low, subsidized rate. Generally, this rate was lower than the discount rate for similar commercial paper. In this way, the Federal Reserve provided reserves in a way unusually favorable to the banks. First, not only was the rate cheap, but acceptances were, like discounts and unlike open-market operations, always there to be provided by a passive Federal Reserve. And second, the acceptances never had to be repaid to the Fed and therefore, unlike discounts and like open-market purchases, they constituted a permanent addition to the reserves of the banks.

The dominance of the Federal Reserve in making a market for acceptances can be seen in the proportion of acceptances held by the Fed. On June 30, 1927, over 46% of bankers’ acceptances were held by the Federal Reserve, over 26%  for its own account and another 20% for foreign central banks.

The subsidizing of acceptances was, from the early years, highly concentrated in New York City. In the first place, the New York Fed seized control of the acceptance policy in 1922 and kept it for the remainder of the decade. Second, the bulk of acceptances were on foreign transactions, and all of those acceptances were purchased by the Fed from only nine very large acceptance dealers located in New York City. Third, the number of acceptance banks was also quite small: 118 in the entire country in 1932, of which 40 were located in New York City. And three-quarters of all acceptances were executed by banks in New York City. The acceptance banks were generally large commercial banks but also included the huge International Acceptance Bank of New York, the world’s largest acceptance bank, which in the 1930s merged with the Kuhn, Loeb-dominated Bank of Manhattan Company.

Excerpted from the article, The Progressive Era, Chapter 14. The Federal Reserve as a Cartelization Device: The Early Years, 1913–1930

As one can see the Fed’s meddling into creating inflationary periods is nothing new; even to the point of creating inflation which rages in asset markets as well as at the consumer level. When Chair Powell realized that he thought that he could not bring the inflationary outbreak under control in 2022, he began a series of massive rate increases which they wanted to institute to create a permanent higher plateau of prices but was considered acceptable as the largest member banks were not vulnerable due to the backstop promised by the Fed under policies originated by Jay Powell’s predecessors.

Thus when the economy looked like it might falter last year, in November of 2023 Jay Powell’s version of Benjamin Strong’s ‘shot of whiskey’ was to offer the promise of rate cuts in 2024 as long as the data supported such a move.

Unfortunately for the Federal Reserve, their ability to forecast future economic developments has a history as accurate and similar to when I engage in blindfolded drunken horse selections at Gulfstream.

A prime example of this was from the October 2007 FOMC Summary of Economic Projections where the Fed offered these gems of predictions for future economic activity:

To quote the movie Major League:

Juuuuuuuust a bit outside.

Thus far, the FOMC has yet to deliver on the cuts while a wild speculative asset bubble created by the Fed’s guarantee to backstop the commercial paper along with the excessive fiscal stimulus has done nothing to contain asset inflation and not even address the damage of embedded inflation on the lower and middle classes in America.

The decision tomorrow will be shocking if he does cut rates because it indicates that the FOMC has found the problem many of us have been highlighting; the ability to refinance commercial real estate along with access to credit for the lower castes in American society is too tight, thus slowing economic activity potentially too fast for the Fed to control or prevent a very hard landing.

This is why I think they Fed would prefer to wait until after the November elections to avoid a political entanglement but might well initiate a 50 basis point cut tomorrow then decide to sit tight until the November 7th FOMC meeting. However if the usual suspects of Federal Reserve insiders are correct and they elect to leave the policies unchanged, then the damage might well be too little, too late by November.

If the Fed cuts in September, it truly will be viewed as a panic move and the unemployment rate will move markedly higher as employers will view this move as the FOMC trying to patch the hole in the damn with Janet Yellen’s fat finger. The recession would be viewed as already well under way (hint: it is) thus creating the threat of a consumer credit crisis and collapse in business investment.

This of course would just initiate Powell’s attempt at a ‘shot of Chardonnay’ to re-stimulate an economy that could experience a deep twelve plus month recession and global monetary crisis as the Fed attempts to re-initiate another cycle of inflation. Any action of this type would only verify the doubters in the efficacy and ability of the FOMC by creating a global loss in faith of the Federal Reserve’s ability to manage America’s monetary system.

Just remember, no matter what happens tomorrow, the losers are always, just like 1927, the average American citizen.

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