By Jeffrey P. Snider
Given the dramatic inflection in “dollar” behavior surrounding the March 18 FOMC meeting there wasn’t much surprising in the latest TIC figures for that month. If anything was complicated it was due solely to the fact that this change occurred mid-month. For the most part, the heavy “tightening” trend that began anew after January was reset by the end of March, producing a bit of shuffling around the eurodollar standard.
The most intense interchange seems to have occurred via the euro and eurodollar. The major European derivative exchange/dealer system, Euroclear, and the “dollar” shift in the latter weeks of March seems to have inaugurated something of a collateral call. In that month alone $92.5 billion (a figure that will probably be revised) in UST’s moved out of Euroclear likely as a result of “dollar” and funding bets being considerably altered mid-month.
We already had some warning about this from the Federal Reserve’s own custody accounting, though that more timely series provided no inkling as to the origination. Right at the end of March, the H.4.1 series showed a huge $63 billion increase in UST’s on account of either foreign central banks or registered international accounts (which could be foreign banks). At the time, I speculated that was a collateral call and these TIC figures seem to suggest as much from European financials (to US derivative counterparties, which may include other foreign central banks doing business at the Fed) and their funding/”dollar” hedges and arrangements.
Even the Chinese, who have been in the news of late regarding “capital” flows, showed some relief in March after a quite persistent period of low “dollar” liquidity. In other words, as the figures below show the PBOC has likely been “supplying” supplemental “dollars” into the market in place of the speculative flows that it has been actively seeking to reject and replace.
Unfortunately, the Chinese corporate sector still needs “dollars” to engage in actual trade, especially upon the import market, so the PBOC’s effort in pulling back on “hot money” could never be comprehensive. The global shift in March suggests some welcome easing off the PBOC working as a “dollar” bypass for the trade sector (though you can be sure some speculative/bubble financing was in there too).
For some currency counterparties like the Swiss, the “tightening” before March 18 was simply too much to unwind in the weeks immediately thereafter. The alleviation of “dollar” problems after the January 15 removal of the franc peg to the euro was only temporary, and that heavy funding pressure returned with a vengeance by February. You have to wonder if SNB pleas to the Fed may have played a role in their March 18 decision, something that cannot be confirmed outside of leaks for at least five years, as the Swiss were then almost helpless in the renewed post-Jan 15 “dollar” deluge.
By the time the FOMC met and made their policy decision, the franc was nearly back to the same drastically troublesome price as it was the day before funding irregularities in “dollars” (it was never about the euro directly) forced that drastic SNB turnaround. The Fed, despite its meanderings in orthodox economic theory, is well aware of these kinds of funding pressures and even the potential implications for not taking them on (a lesson learned the hard way, twice; in 2008 and again in the middle of 2011); the Swiss banking system continues to be a global pivot in the eurodollar system, so sinking Swiss banks under so much dollar concavity would have been at least a serious consideration deep within the policy discussion (if only internally, separate from the actual policy meetings).
For the most, part, though, overall TIC estimates show the usual pattern of past “dollar” issues – the private market experiences “dollar” interruption and illiquidity and then central banks begin to act a few months later (which is why it is quite dangerous to rely on central banks’ immediate reactions if it really starts to go wrong).
After declining by a very sharp $27 billion in January, foreign private acquisitions of US$ assets in March were back up to +$49 billion (given wholesale “dollar” behavior, in general, declining “flows” of US$ assets indicates funding problems while positive inflows to US$ assets indicates little or no funding problems; the same holds for the “official” accounts of central banks, as negative flows of US$ assets, in general, indicates central banks “mobilizing” reserves to supply “dollars” in supplement to the private “dollar” market of banks in their jurisdiction). Contrarily, the cumulative action of global central banks was again almost -$18 billion. Central bank “flows” have been negative for four consecutive months, and six consecutive months, dating back to, of course, October in UST’s alone.
In other words, prior to the FOMC’s apparent policy shift global central banks were desperately engaged in fighting a very heavy “dollar” problem, even if the private market grew more settled starting in February. For the most part, central banks have very little influence on “dollar” factors even in their areas as financial constraints globally far outweigh their limited abilities even of supposedly immense “reserves.” The FOMC continues to proclaim that they consider very little of the global “dollar” market in setting their policies but that mostly relates(d) to emerging market and non-OECD central banks and financial connections. Again, there is no way to be sure, and this is just speculation on my part, but these massive “dollar” problems must have at least entered the discussion somewhere. It may not have mattered in the end, as clearly US economic problems are enough of an issue on their own, but it would not have helped the “hawkish” position having so many major central banks contained and sustained within desperate policies.
The most encouraging sign, in terms of that guiding governing “dollar” dynamic, is that bank balance sheets reported their lowest quarter-end declines going bank several quarters to the start of all this “dollar” mess.
The reported liability contraction was only $115 billion, less than half of December’s record “dollar” withdrawal. I think we can reasonably extrapolate that without the March 18 relenting on raising the (useless) federal funds rate target that might have been still much worse; though maybe not as bad as the November/December illiquidity period.
Almost all of this goes unreported and certainly unappreciated as stock prices hit record highs at least on the S&P 500. Maybe there is some recognition of funding markets in the broader stock markets in the US, as NYSE Composite continues without any gains during the whole of this “dollar” strain, but for the most part the erosion in the global “dollar” system is a mystery or surprise to almost everyone. As it is, the eurodollar standard that really took over in the mid-1990’s is winding itself down to a more dangerous level of incapacity, which is why all these seemingly minor indelicacies are producing asymmetric problems throughout. Instability is nearly the worst case for the real economy, so it is also not very surprising that the global economy would be heading toward recession while global financial systems are constantly engaged in these kinds of negative episodes – one after the other.
The March inflection may yet prove durable, though there are already indications this is just the usual ebb and flow, meaning that even the Fed can only entertain temporary influence. The greater dynamic, the structural issue, is one that has been gaining since August 9, 2007. Everything done to counteract that is just buying time, but doing so in what increasingly looks to be a doomed system.
By Doug Short