FED, ECB, Scotland Commentary

This week the world will find out the outcome of three very critical events; (1) what the FOMC will do with it’s decision on raising rates, (2) the details of the ECB QE-EuroStyle action on Thursday when the central bank is expected to dish out cash on the cheap to banks for long periods in targeted longer-term refinancing operations (TLTROs), and finally (3) the outcome of the Scottish vote on whether they want to succeed from Britain or not.

The TLTRO program is designed, according to Morgan Stanley, to provide

“additional credit easing (CE) as the asset purchases will allow banks to make room on their balance sheets to extend fresh loans, which is also encouraged by the TLTROs, and balance-sheet expansion (QE)”.

The program will do this by opening up more lending following a forced balance sheet restructuring thanks to Asset Quality Reviews (AQRs) and those infamous stress tests, which is expected to address the credit supply constraints. ECB QE on the other hand will stimulate credit demand by injecting money into the system, dropping the value of the Euro which should support exports and bring up inflation expectations.

On Sunday the Federal Reserve members received a comprehensive analysis book commonly referred to as the Teal Book. It’s a merger of two previous economics book, Green and Blue, used by the Fed to gauge economic activity ahead of their rate decision. Unlike the Beige Book which is readily available to the public on comparative standards, the Teal Book is not released to the public for 5-years.

Morgan’s data shows that most participants are still expecting the first FED rate hike to hit in the H1 2015, more accurately in June.

The critical point when discussing Fed action is to remember the Fed has serious potential to make a mistake. If they don’t stop manipulating the US economy with relative behavior that impacts expectations thus the perception of assets prices too late, then the system falls into a Japanese-style spiral toward oblivion. If the Fed moves too fast, it risks showing that the past 5 years have all been manufactured and the growth and subsequent proclamations from high of the US “strong recovery” will be discounted (something Reuters sees also) and rendered invaluable quicker than Bear Stearns commercial paper in 2008. Expect the language this week to highlight “strong expansion” in place of “recovery”.