The Fed at the Crossroads


OCT. 22, 2014


                   Janet L. Yellen, the Federal Reserve chairwoman Credit Kevin Lamarque/Reuters       
Barring unexpected bad economic news in the next several days, the Federal Reserve will finish its bond-buying program at the end of this month. In all, the program has pumped $3.5 trillion into the economy since 2008, helping to revive financial markets and stabilize the economy.
Now comes the hard part.
In its effort to wean the economy off of extraordinary monetary support, the Fed’s next task is to decide when to raise interest rates from their prolonged ultralow levels.
Technically, the decision is straightforward. It is appropriate to raise rates when the economy shows signs of overheating, as measured by inflation in wages and prices. Currently, there are no such signs. Wages have long stagnated, even for college-educated workers. As for prices, the Fed’s preferred annual inflation measure was recently 1.5 percent, well below its 2 percent target.

Politically, however, the decision is fraught. The Fed is not supposed to be swayed by elected officials or special interests. But bond holders — a powerful political constituency that includes financial firms, investment funds and wealthy individuals — generally want the Fed to raise rates sooner rather than later, and they have ample opportunity to dominate public discourse. Their aim is to pre-emptively attack inflation, which diminishes the value of their bonds.
But it is not the Fed’s job to protect investors’ bond portfolios. Its job is to foster both stable inflation and full employment. With the American economy still operating below par, low interest rates would pose an inflation threat only after they had succeeded in spurring credit, strong growth and robust employment. Since those results have not yet been achieved, there is no inflationary pressure and no reason to raise rates in the near term.

In fact, inflation has been so low for so long that the economy would not be in danger of overheating even if there were a period of inflation above the 2 percent target. That target is an average that the Fed would like to maintain over time, not a level that necessarily signals the need for a rate increase.
Similarly, wages can rise at a rate well above inflation without pushing up prices. That’s because wage increases do not even begin to pose an inflation threat until they exceed the rate of inflation plus the rate of labor-productivity growth, roughly 3.5 percent currently.

Fed officials have indicated that they plan to start raising rates in mid-2015. They have stuck to that timetable, even as wage-and-price increases have failed to materialize. That policy consistency is understandable on one level: With many months to go before it has to either raise rates or admit that the economy is too weak to warrant an increase, the Fed rightly wants to project optimism.
It is crucial, however, for the Fed to keep rates low as long as inflation is in check. If rates are raised too soon, growth would be slowed before pay raises and adequate credit are restored to workers and consumers.
If that happens, the Fed effort to rescue the economy would, in the end, only further entrench inequality.

10/22/2014 01:39 PM

Battle for Kobani

As the World Watches, Turkey Looks Away

By Christoph Reuter
 Photo Gallery: The Ongoing Fight for Kobani
For weeks now, the world has grown worried as Islamic State jihadists have tried to take the Kurdish city of Kobani in Syria. As the US has stepped up airstrikes, Turkey's actions have revealed that it is pursuing its own contradictory political agenda.

Just a few kilometers away from the Turkish border, the war is raging. In the Kurdish city of Kobani, US jets bomb Islamic State positions while the town's last defenders, equipped with more grit than guns, fight the jihadists on the ground .
As the Turkish army impassively watches the deadly battle from its side of the boundary with Syria, it has opened its own mini-front on the outskirts of Suruç, a Turkish border city. A young policeman, his finger on the trigger of his automatic weapon, stands in front of the town's sports club, a second officer next to him holding a grenade launcher for tear-gas cartridges. Behind them are two dozen soldiers and policemen, and armored vehicles bearing mounted machine guns and crates of ammunition.
Since Oct. 6, the jittery unit has been detaining a number of Kurdish civilians who fled across the border from Kobani. In the beginning, they numbered 160 -- most of them were young men, though there were also women and children. The guards in front of the gate are not allowed to say why the civilians are being held and they point their weapons at everyone who approaches.
Suddenly, a group of boys from a local team appears. A boy of about 10 explains that they're arriving for weekly soccer practice, held on the field next to the gymnasium. A man in uniform searches through their gym bags, one after the other, while the others look on nervously.
The scene is prosaic and absurd. But it is, for that very reason, symbolic of what is taking place on the Turkish side of the border these days. The fight for Kobani -- which, thanks to its proximity to the border, is being filmed and watched around the world in real time -- is no longer exclusively about control of the city. The desperate defense mounted by the Kurds embodies their decades-long struggle for an independent country.
Kobani was a city where a Kurdish government sprouted and flourished, a fulfillment of dreams in miniature. Now that the city is being threatened with destruction by Islamic State Ankara is doing nothing to prevent it, and thus putting the future of Turkish-Kurdish reconciliation in danger -- and domestic peace along with it.

Incomparable Triumph

The fight for Kobani also of outsized importance for the jihadists. Should Islamic State win despite US airstrikes, it would be an incomparable triumph.

From a geopolitical perspective, the town's strategic importance is limited. But because camera teams can easily monitor Islamic State advances -- machine-gun bursts and mortar strikes can be heard from across the border, and the clouds of dust and smoke from the airstrikes are easily visible -- Kobani has become a stage and the entire world its frightened audience.

Turkey, however, is primarily concerned with chasing away onlookers. Last Wednesday afternoon, a column of army vehicles sped to the top of a hill west of Kobani where residents and journalists were watching events unfold across the border. The first Jeep came to a halt at the summit and a man clambered through the rooftop opening, cocking his teargas launcher like a shotgun. The soldiers then proceeded to chase everybody off the hill.

The security personnel behave like manic town sheriffs. On Wednesday evening, 15 armored vehicles rolled into Mahasir, a border town populated by Turkish Kurds. The soldiers announced via loudspeaker that the village was being cleared and that all residents had 10 minutes to leave their homes. Those who refused would be fired at with teargas. After an hour, the soldiers left.

The high-strung behavior of Turkish security personnel stands in direct contrast to their moderate approach to Islamic State, which is on display 60 km east of Suruç, at the next border crossing in Akçakale.

Two years ago, the town on the Syrian side, Tell Abiad, was home to a functioning town council comprised of opposition leaders and representatives of several rebel groups. But now the black flag of the Islamic State is flying on the Syrian side of the border. The Islamist fanatics have controlled Tell Abiad for almost a year and have murdered or driven out all of their opponents. The town council is gone, replaced by a dictatorship that keeps the population in its place by way of spies and capriciousness.

'They Won't Pay Any Attention'

Turkey seems to prefer a neighbor like Islamic State to the Kurds. The border gate to the sleepy town opens at 9 a.m. "Syrians may come and go," says the Turkish official manning the guard house. For everyone else, there is a trafficker standing in plain sight a few meters away.

"How many? Two men? Three? No problem," he says, without inquiring about nationality. "They won't pay any attention."

There isn't much going on at this particular entrance to the caliphate, just a couple of women fiddling inexpertly with the required face veil as they prepare to cross the border. But after about half an hour, a truck arrives and unloads some pallets loaded with first-aid supplies: bandages, rubber gloves, disposable drape sheets and collapsible wheelchairs.

An elderly man with a long beard monitors the reloading operation as the supplies are packed onto handcarts. Just before he crosses the border with his cargo, a young man rushes up to him, hands him a Saudi Arabian passport and asks him to take it across for a friend, who will be waiting. The older man takes it and, together with his four companions, pushes his load of medical supplies across the border into the caliphate.

Such a delivery would be a godsend for the Kurds of Kobani. They have been begging the Turkish authorities to open the border crossing near the town and to allow medical supplies to pass, with no success. Here in Akçakale, however, those kinds of crossings are no problem whatsoever.
That is one of several reasons Kurdish distrust of the Turkish state is growing. The almost 100,000 refugees from Kobani and surrounding villages have thus far been almost exclusively provided for by private aid organizations, which have set up tent camps in and near Suruç. The municipality, led by the Kurdish party BDP, has transformed the community center into an emergency shelter. One aid worker from Diyarbakir says that the state is doing almost nothing compared to agencies from Kurdish-governed cities. Indeed, many Kurds, including parliamentarians and city officials, firmly believe that Turkish President Recep Tayyip Erdogan is working together with Islamic State.

The heightened suspicion means that the peace process between Turkey and the Kurds -- which aims to resolve the decades of violent animosity between the two groups -- could very well have come to an end.

Another source of the intensifying tension between Kurds and Ankara: the Kurdish media's tendency to exaggerate Turkey's dubious behavior. Police buses, which often have tinted windows and lack license plates, are filmed from afar and described as "Islamic State transports."

Lacking Ammunition

In Kobani itself, the war against Islamic State is being waged by just over 1,000 guerilla fighters and the most powerful air force in the world. The US planes fly more than 1,000 kilometers (600 miles) from bases in the Persian Gulf and are refueled mid-air before they arrive in Kobani. According to Kurdish claims, target coordinates are then radioed in by Kurdish commanders on the ground. Indeed, the fact that the Kurds have been able to hold out, and even to win back some territory, is entirely due to these US airstrikes.

US strikes in Kobani have thus far largely focused on the thousands of Islamic State foot soldiers in the city, and not on the Islamist convoys in the surrounding countryside or their approaching tanks. In recent days, columns of smoke have been rising from strikes on the heart of the dense city center. The fact that US strikes last Wednesday night hit a position held by Kobani's defenders, apparently killing several Kurdish fighters, was as tragic as it was inevitable.

By the end of last week, the defenders of Kobani were lacking ammunition for almost all of their weapons. "We are now sharing a single Kalashnikov, each person fights for two hours and then it is the next fighter's turn," one Kurdish fighter said over the phone. "We have pushed our Dushka" -- a heavy machine gun -- "into a garage and hidden our anti-tank weapons. We don't have any more ammunition for them. We only have shells for the Kalashnikovs." The situation was so dire that the US began air-dropping weapons, ammunitions and medical supplies for Kurdish fighters over the weekend.

Turkey, though, continues to prevent the Americans from using their nearby base in Incirlik for airstrikes. Last week, Ankara and Washington arrived at a bizarre compromise instead, permitting the US to only use the base as a take-off and landing site for drone flights. It was only on Monday of this week that a fisrt shipment of weapons, ammunition and other supplies was dropped from US planes and that Ankara saw fit to budge slightly from its increasingly untenable position, announcing that it would allow Iraqi Kurds to cross into Syria to help defend Kobani.

Primary Enemy

Turkey also wants to help the US arm and train moderate Syrian rebels to fight against forces loyal to Bashar al-Assad. But Ankara remains opposed to any move that could strengthen PKK, which it continues to see as its primary enemy in the region, alongside the Syrian president.

It is doubtful that Kobani can be saved with airstrikes alone and even more unlikely that the Islamic State can be defeated from above. Exhibit one remains the Sinjar Mountains in northern Iraq, where tens of thousands of Yazidis sought safety fromthe Islamic State onslaught in August before being rescued there by troops from YPG, the Syrian offshoot of PKK. Today, hardly anyone is paying much attention to Sinjar, where Islamic State managed to take control of the last access road two weeks ago, despite occasional airstrikes. Now, the jihadist group is besieging well over 1,000 fighters -- a group made up of troops from YPG as well as the recently-formed Yazidi militia "Angel Peacock" and the Peshmerga, the fighting force of Iraqi Kurds -- there.

As the world looks to Kobani, the jihadists in Iraq have been able to advance toward the western Iraqi towns of Hit and Ramadi. Iraqi informants also say Islamic State is currently gathering fighters for a possible assault on Kirkuk, the oil rich city in northern Iraq under Kurdish control.

Islamic State now controls an area stretching to within 25 kilometers of Baghdad and the Sunni group is also responsible for a series of attacks that killed more than 70 people in the city's Shiite quarters last week. A political solution to the conflict remains remote. Indeed, instead of making concessions to the Sunnis, new Iraqi Prime Minister Haidar al-Abadi has nominated a leader of the Shiite militia Badr Corps for the post of interior minister.


The sparse US airstrikes have thus far had minimal effect, to the point that top US military officials have reportedly been pressuring US President Barack Obama to increase the number of sorties flown from the current five to seven per day to 150 or more. Some also say that Special Forces are needed on the ground to assist with targeting. But so far the US has only significantly increased its engagement in Kobani itself, partly due to massive international pressure.

Significant assistance from the Turkish side, though, remains unlikely. On the contrary: Last week, the Turkish military flew airstrikes against PKK positions in southeastern Turkey, the first such attacks in some time. It seemed to be sending a clear message as to who Turkey sees as being the worse terrorists.

Last week, a group of fathers gathered in front of the sports club in Suruç. Some of them were the fathers of those being held inside, and all of them, aging farmers with deeply furrowed faces, had the same story to tell: At first, Turkish officials had told them they would be able to bring their cars, tractors and other vehicles across the border when they fled Kobani. Aside from their land, these vehicles were their most important possessions.

But at the border crossing, they were told they could only come across by walking, so their sons stayed behind to keep an eye on the vehicles. Ultimately, though, they too had to flee on foot -- and were arrested when they arrived in Turkey.

"We are farmers, damn it. What do they want from us?" implores Salih Nuri, who is standing together with his two youngest sons. "Why are they tormenting us like this? They should at least give us a reason why they are holding my son and the others. One reason."

Nuri isn't alone in waiting for an explanation from Turkey. The rest of the world is too.

Europe Demands Banks Hand Over Their Lunch Money Following Swiss Franc Libor Rigging

by Tyler Durden

on 10/21/2014 08:33 -0400

...And don't do it again!

Having confirmed that RBS, UBS, JPMorgan,,and Credit Suisse operated a cartell to manipulate bid-ask spreads of Swiss Franc libor, the European Commission has unleashed unmerciless vengeance on these law-breaking institutions:

JPMorgan fined EUR 72.2 Million, UBS fined EUR 12.7 Million, Credit Suisse fined EUR 9.17 Million, & RBS Nothing (for whistle-blowing).

The commission found that these four entities 'influenced' interest rate derivatives prices between March 2008 and July 2009 - probably the most volatile and price-sensitive period of American financial history.. and they get fined "an hour's pay?"

Nothing ever changes...

View image on Twitter

October 22, 2014, 2:16 PM ET

Why Rising Rents Haven’t Pumped Up Inflation

By Kathleen Madigan


Policy makers and economy-watchers now seem more worried about disinflation rather than accelerating inflation. That wasn’t the expectation at the start of the year. In January, economists surveyed by The Wall Street Journal expected inflation–measured by the consumer price index–would end 2014 at a 2.3% annual rate, up from the 1.5% rate of 2013.

Instead, inflation through September is running at a 1.7%, according to Wednesday’s CPI report. Core inflation, which excludes food and energy, also stands at just 1.7%.

One reason that inflation was forecast to accelerate this year was the expected increases in the cost of putting a roof over one’s head.

The Labor Department asks homeowners to estimate how much it would cost to rent their own homes. In a period of still-rising home prices and greater demand for rental properties, it is not surprising that the estimates–called owners’ equivalent rent–are rising this year. For the 12 months ended in September, OER is up 2.7%, up from 2.2% a year ago. (Actual rent paid by tenants is up a faster 3.3%.)

OER is the big gorilla in the inflation room. It accounts for 24% of the total CPI and 31% of the core. So why isn’t the accelerating OER rate pushing up the core? Because other factors are offsetting the upward push.

The biggest drag is the downward pressure on goods prices coming from overseas.

Excluding fuel (which has been falling on its own), the average price of imports hasn’t increased since March, according to Labor Department data. That reflects the stronger dollar, falling commodity prices, as well as foreign producers guarding U.S. market shares as their domestic demand flags. In turn, the CPI for all core goods is down 0.3% for the 12 months ended in September.

On the service side, other major categories have seen a slowdown in markups. Prices of medical services are up just 1.7% year over year, versus 3.1% a year ago. Education and communication services increased 1.8%, down from 2.0% a year earlier. Recreation services are rising 1.3% versus 1.7%.

Altogether, service prices less the rent of shelter increased 2.0% in September, down from 2.6% in September 2013. The disinflation among services coupled with outright price cuts in goods has overwhelmed the upward push from rents. These trends are likely to continue until global economies are growing in better sync.

Rising shelter costs, however, put a crimp in the outlook for U.S. consumer spending. Households are paying more to keep roofs over their heads, leaving less money to spend elsewhere. Luckily, falling gasoline prices will ease some of that squeeze as consumers head into the important year-end holiday shopping season.

The TPP’s Missing Ingredient

Simon Johnson

OCT 22, 2014

dollar currency manipulation

WASHINGTON, DC – Looking for ways to stimulate economic growth and create jobs, US President Barack Obama’s administration is seeking to press ahead with the mega-regional free-trade deal known as the Trans-Pacific Partnership (TPP). But is the US going about it the right way?
The TPP’s initial scope was relatively modest, involving the United States and a range of trading partners (Australia, Brunei Darussalam, Canada, Chile, Malaysia, Mexico, New Zealand, Peru, Singapore, and Vietnam). But now Japan is on board, South Korea is watching closely, and there is potential for engaging with China through this or a similar framework in the foreseeable future.
The typical approach when seeking to finalize an agreement aimed at reducing trade barriers – while attempting to protect labor and environmental standards – is to ask for less, not more, from those on the other side of the table. But at this stage, the TPP is different: the odds of success would be much greater if the US attached the additional requirement that participating countries do not engage in currency manipulation.
One of the major shortcomings of the global trading system in recent decades has been the absence of an effective constraint on countries that intervene heavily in order to keep their currencies undervalued. A significantly undervalued currency implies a potentially large trade surplus.
Ordinarily, a large surplus puts upward pressure on the country’s currency – making its exports less competitive and boosting demand for imported goods and services. But a country’s authorities can prevent appreciation for a prolonged period of time by buying up foreign currency.
Such intervention results in the accumulation of foreign-exchange reserves – much of which is held in the form of US government debt. In one way, this benefits the US by helping to keep interest rates lower than they would be otherwise. But currency manipulation is also an unfair way to gain a trading advantage, with excessive negative effects on trading partners.
The International Monetary Fund was founded, in part, to prevent precisely this type of beggar-thy-neighbor economic strategy, which resulted in “competitive devaluations” during the 1930s. Unfortunately, the IMF in recent years has proved unable or unwilling to do so.

Heard on the Street

The Real Reason to Stress about Europe’s Bank Test

By Paul J. Davies

Oct. 22, 2014 12:24 p.m. ET

A credible-enough stress-test result could prompt a re-evaluation of BNP Paribas and other European banks. Kosuke Okahara/Bloomberg News

When everyone is staring in one direction, it often pays to look the other way.

European bank stocks have endured a wild ride as the continent’s stress-test results near. The European Central Bank is due to release them Sunday. Greek, Portuguese and some Italian and Spanish banks have suffered especially.

That is understandable. There are plenty of questions about European banks’ capital strength. And no one wants to own a bank that comes asking for more equity.

But too many banks have been tainted by this worry. So there is a good chance that solid, unloved institutions rally once the uncertainty of the stress tests is past and investors can refocus on the ECB’s stimulus efforts.

If, that is, the tests are credible. A lot rides on the stress tests for the ECB, which takes over eurozone bank supervision from national governments next month.

Its reputation will be based on its review of banks’ books and the stress tests.

The last tests under the sole supervision of the European Banking Authority were risible; several banks passed them only to require bailouts later.

Even with the ECB now at the helm, there is skepticism about how conclusive the tests will be. Europe, after all, has many competing voices and levels of economic health. Muddy political compromise is a near-inevitable outcome.

And the European tests can never draw the same bright line as did those in the U.S. in 2009. The ECB, for example, can tell a bank it must raise capital. But it can’t promise that a government will inject some if the bank can’t or won’t.

However, because the last European tests didn’t work and the ECB’s own credibility rests on the new ones, there is a decent chance they will be good enough. While some banks will indeed fail, investors may find there is opportunity to be had in a glass-half-full approach.

As things now stand, banks such as ING Groep of the Netherlands and Crédit Agricole or even BNP Paribas of France aren’t valued as recovery stories with big gains due from once-bad assets. Nor are they shunned as weaklings or firms overburdened by regulatory fines to come.

ING has cleaned up its balance sheet, sold insurance businesses and is cutting funding costs. Crédit Agricole has seen its capital base grow strongly, although a lot has come from investment gains in its insurance unit. BNP Paribas has yet to resolve a U.S. dollar-clearing ban that arose from its sanctions busting, but is performing well otherwise and should benefit from ECB monetary actions.

All three are valued at less than 0.9 times book value, while ING and BNP also have unchallenging forward price/earnings ratios of about 10 times. Crédit Agricole trades at 11.5 times forward earnings, but has a lower book value multiple of 0.6 times.

A credible-enough stress-test result could see these kinds of banks rerated. If BNP’s valuation moves up to the multiple of J.P. Morgan Chase ’s at about 0.94 times, for example, that would lift BNP’s shares more than 30%.

Investors with a higher risk appetite could also look at weaker banks that might still pass, especially if hedge funds have bet heavily against those stocks. Their prices could leap sharply if investors are forced to buy back stock to cover those short wagers against them.

Portugal’s Banco Comercial Português and smaller Spanish banks like Sabadell and Banco Popular Español have heavy so-called short interest, according to data from Markit Group. Notably, the second-most-shorted bank stock in the Stoxx 600 is ING.

Beyond the stress tests, Europe still faces low economic growth and low interest rates, so it will be some time before banks see lending and interest income growth. Then again, things have been so desperate that any signs of life would be good. And, should credible stress tests relieve capital concerns, European bank stocks will be looked at in a different way.