For weeks now, investors have invested based on the idea that the Fed would announce some major program during its Fed’s June FOMC from June 19-20. The whole notion was absurd for several reasons.
First off, even the Fed doves such as Charles Evans and Bill Dudley have begun to state in public that the consequences of more QE outweigh the benefits. Bernanke’s been saying this since May 2011. The fact that his more dovish colleagues now agree with him makes the likelihood of more QE minimal.
Moreover, the Fed has already become a political hot button for the 2012 Presidential Election. For the Fed to launch a new major program so close to the election now would be a death knell for Obama whom the Fed has been moving to support throughout his Presidency (Obama did re-elect Bernanke after all).
Indeed, all of the primary arguments for QE have now been rendered moot. In terms of liquidity, banks are sitting on over $1.5 trillion in excess reserves. Interest rates are at record lows. And as for boosting the economy, the Fed now realizes that QE pushes the cost of living up which will in turn make the Fed a target of political outrage (again, this is an election year).
Finally, we have to consider the Spanish €100 billion bailout.
NO US entity was involved in this move (neither the IMF nor the Fed). This puts the “prop up the system” job squarely on the EU’s shoulders for now. Americans will not stand for a US bailout of Europe, so until a major bank fails or we enter a full-scale crisis head on (which hasn’t happened yet), I believe the Fed will continue to resort to more symbolic and verbal interventions.
In simple terms, we’ve gone from a time in which the Fed can unveil new massive programs to help the US economy to a time when the Fed can only act when it absolutely has to (a major bank collapses or the system begins to collapse a la 2008).
We’re now seeing the same game occurring in Europe: investors hoping and praying that EU leaders will somehow pull a rabbit out of a hat.
Germany has been implementing measures to permit it to leave the EU for months now. Moreover, Angela Merkel has made it clear that she will not permit Eurobonds with German backing, nor will she permit a pooled banking system.
The reasons are obvious. The EU’s less solvent countries want free money. Germany won’t give it to them. Any and all German funds will only be allowed with the guarantee of certain conditions being met.
As we’ve already seen with Greece, those on the receiving end of the bailout gravy train are not prone to meeting “conditions.” Spain is no different: not only has it missed its budget deficit requirements several times but it is now openly ignoring demands from those propping it up:
Spain PM not to implement IMF suggestions for now
Spain will not immediately implement the International Monetary Fund’s latest recommendations, which include cutting government workers’ wages further, because they are nonbinding advice, the prime minister said Saturday.
The IMF is one of three organizations Mariano Rajoy’s government turned to for an assessment of the state of Spain’s banking sector ahead of a (EURO)100 billion ($125 billion) bailout for failing lenders.
In simple terms, Germany may be willing to prop up the EU, but only if its demands are met. The track record for the PIIGS in terms of meeting demands is abysmal. Moreover, implementing such measures takes months if not years. Given that Spain’s ten-year is back over 7% and Italy is now begging informally for a bailout, the EU doesn’t have that time.
With that in mind, I believe the market has topped and we will be heading lower in the coming months, culminating in the collapse of the EU in its current form and very likely the EU banking system.
If you have not already take steps to prepare for this, I highly recommend doing so now.
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Chief Market Strategist
Phoenix Capital Research