💵 Why The Fed's Always Wrong

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The banking crisis is over. "It's the Fed's fault we had one"SV Venture Capitalists bailed out. "It's the Fed's fault they even exist"Low inflation since the GFC. "It's the Fed's fault" Inflation is running wild. "It's the Fed's fault"

Do you feel informed or enlightened by this analysis? If you do, please stop reading. Seriously, this won't be your thing.

Still here?

Right. Hear me out.

Everything isn't always the Fed's fault

That shouldn't even be slightly controversial. It's fun to pretend it is, but that's all you're doing. Pretending.

If you actually want to understand or trade the nonsenses and nuances of monetary policy, playing the blame game is a waste of time and energy.

Even if you believe that the Fed's always to blame, what can you do with that information, other than sit hunched over a keyboard and angrily combust?

Now, I don't want to 'pick' on anyone individually, but Peter had the misfortune of appearing in my feed with the perfect tweet at the perfect time... 👇

He's far from the only, or even the worst, offender. Plenty have made entire careers out of blaming the Fed and screaming policy error every time the faintest breeze of monetary policy change ruffles against the market curtains.

However, Peter's example was too perfectly timed to leave out. Doesn't matter what happens, it's a policy error.

If everything's a policy error, can't we just sit around pontificating about which policies they should've put in place instead? Nah, that's easy (and pointless).

On Bloomberg TV today, Jonathan Ferro was saying how it's amazing that the Fed Chair sat in testimony for two days talking up rate hikes with no idea that a US bank was on the brink of failure.

It is... But only if you presume that they (or anyone else) can see the future...

The Fed knew the risks that SVB (and others) were facing...  

What the Fed didn't know was that SIVB's customers would all panic together and try to withdraw $42 billion in a single day.

So, what's the Fed to do in that situation? While people will argue over what they should do (btw, 'should' is the fifth most dangerous word in the English language), they'll generally choose the path of least regret.

So, while you might think they should let the dumb VC's who all panicked together in their insular little bubble suffer the consequences of their actions, the Fed doesn't care about your opinion. Or anyone else's.

They'll do what they think is best for financial stability, maximum employment and price stability (stable inflation).

In this case, that was to quickly create a facility to resolve the liquidity mismatch and prevent bank runs from 'going viral' and spiralling out of control.

Calm down Karen. I'll let you into a little secret. Wealth is not a good indicator of financial competence. Keep it between us though OK?

Back to the Fed and all of those goals. Will they always get it right?

They'll get it sort of right, over time, with lots of massive distortions and mis-steps in the middle. And that's presuming we can even agree on what the 'right' policy is, and for how long.

See, the Fed's goals often run counter to each other. The last three years has been the perfect example.

Financial Stability, Maximum Employment & Price Stability

Until recent events took over, the Fed was laser-focused on inflation. It's probably still the primary focus now.

Maximum employment and financial stability were put in the corner and told to face the wall. If the Fed are the parents, Inflation was the favourite child.

"We don't care about you two, Inflation is all that matters"

Back in March 2020, that wasn't the case. Inflation was as forgotten as a ginger stepchild. He barely left his room, banished after years of disobediently refusing to grow up.

Financial stability became the favourite in March 2020. Covid hit and the world panicked. Maximum Employment was a mere afterthought. We'll get to you later sweetheart...

"We don't care about you two, Financial Stability is all that matters"

Massive QE, a promise to buy all the corporate debt. The works. Saved the global financial system...

Ah, but then they switched focus again. FAIT - Flexible Average Inflation Targeting. Although it says inflation in the name, this was ALL about Maximum Employment.

Over the past three years, all of these goals have been front and centre at one point or another.

Right now, we're moving into a more balanced period, where Employment remains in the background, Financial Stability is becoming more important again, but Inflation is still the main focus.

While people are calling out the Fed for their 'policy errors', they've been very clear in communicating what they're doing. You just need to pay attention.

It doesn't matter if you agree with them.

"If only the Fed had..." "The Fed should..."

• Everyone has 20/20 hindsight

• Nobody has 20/20 foresight

Fed policy will always be sub-optimal, just like pretty much everything else in life. An engine can only work for so long at optimum levels before something breaks. At which point you fix it or replace it...

There will always be improvements required, tweaks and changes to be made. The Fed will continue bouncing around, trying to balance all of these goals sub-optimally. If you listen, they'll tell you what they're doing and why.  

Forget about the moral arguments, the emoting, or the calls to authority when the latest talking head is preaching their views on TV or social media.

Accept the world the way it is. Be aware that things can (and will) change. Today's solutions are tomorrow's problems. Always have been, always will be.

The Fed will always be there to take the blame. Society needs scapegoats...