Sunday, June 30, 2013

Add one to Krugman's "Always Wrong Club"

Paul Krugman cleverly dubbed the likes of John Taylor, Niall Ferguson and 21 other economists who warned, back in 2010, of potential dire consequences resulting from quantitative easing, the "Always Wrong Club" (the title of his yesterday's blogpost). Well, looks like the club needs to induct one more member, Krugman himself.

Here he is sharing his wisdom on the bond market to New York Times readers back on May 9th:
 Why, then, all the talk of a bond bubble? Partly it reflects the correct observation that interest rates are very low by historical standards. What you need to bear in mind, however, is that the economy is also in especially terrible shape by historical standards — once-in-three-generations terrible. The usual rules about what constitutes a reasonable level of interest rates don’t apply.

There’s also, one has to say, an element of wishful thinking here. For whatever reason, many people in the financial industry have developed a deep hatred for Ben Bernanke, the Fed chairman, and everything he does; they want his easy-money policies ended, and they also want to see those policies fail in some spectacular fashion. As it turns out, however, dislike for bearded Princeton professors is not a good basis for investment strategy.

And one should never forget the example of Japan, where bets against government bonds — justified by more or less the same arguments currently made to justify claims of a U.S. bond bubble — ended in grief so often that the whole trade came to be known as the “widow maker.” At this point, Japan’s debt is well over twice its G.D.P., its budget deficit remains large, and the interest rate on 10-year bonds is 0.6 percent. No, that’s not a misprint.

All in all, the case for significant bubbles in stocks or, especially, bonds is weak. And that conclusion matters for policy as well as investment.

You know, I happen to be in the financial industry and I promise you, I hold no hatred whatsoever for Ben Bernanke. Not even close! I'm sure he believes he's doing the right things; the fact that I disagree in no way suggests that I hate the man. And, please, make no mistake---while there are no doubt a few frustrated shorts out there---the last thing in the world "many people in the financial industry" want is Bernanke's policies to "fail in some spectacular fashion". Talk about cutting off your nose to spite your face!

As for investment strategies and the proclamations of bearded Princeton professors, well, let's see; Bernanke made his "Great Moderation" speech (a promise of economic smoothing attributed largely to sound monetary policy) in February 2004, just shy of four years before the onset of the worst recession since the Great Depression. OOPS! As for the bearded Princeton professor Krugman of May 9th, he would have his readers give nary a thought to a selloff in the bond market. OOPS!

And here's Krugman today suggesting that the other bearded Princeton professor "grossly misunderstood" the nature of the relationship between his statements and market expectations. Yet (big surprise) nowhere will he admit that, per his May 9 article, he grossly misunderstands markets in general:
Bond prices have plunged, and the Fed’s attempts to inform markets that they’ve got it all wrong have only modestly mitigated the impact.

What went wrong? The Fed grossly misunderstood the nature of the relationship between its statements and market expectations. It believed that the market was listening closely to the details of what it said. In fact, the market doesn’t — and probably shouldn’t. Instead, it listens to the tone of Fed statements, and also Fed actions; it’s more a matter of character judgment than mathematics. And what the Fed conveyed with the tapering talk was a sense that its heart really isn’t in this stimulus thing.

Bottom line folks; there are a few things in life that you just don't do. Such as:

Pee into the wind.
Lick a frozen lamp post.
Spit straight up.
Eat prunes when you're hungry.
Stand between a dog and a fire hydrant.
Take investment advice from bearded Princeton professors.

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