We Are All Epsilon Theorists Now

12+
Jay Powell describing the current size of his credibility at Friday’s press conference

I’ll save my specific investment advice on Jay Powell’s narrative about-face last Friday for ET Pro subscribers, but I’ll share the title of that note: “LOL“. I mean, if you can’t laugh at this sort of craven performance art, you’re taking the world way too seriously.

All of that stuff from December’s FOMC meeting about looking at the real economy to figure out what monetary policy should be? All of that stuff about caring more about Main Street than Wall Street?

JK!

At Friday’s presser, Jay Powell did what I thought he would do in December – he answered the prayers of all the Wall Street penitents, from schlocky TV evangelists like Jim Cramer to hair-shirted saints like Stanley Druckenmiller. Please Lord, make me chaste … but not yet.

Powell on Friday: I hear you, my children. I hear you.

And there was much rejoicing.

Back in 1971, when Nixon took the U.S. off the gold standard and adopted a broad swath of activist and “modern” monetary policies, he famously said (ruefully, if the stories are to be believed), “I am now a Keynesian in economics”. In this he was channeling Milton Friedman, who coined the phrase “we are all Keynesians now” in the 1960s to describe the overwhelming political pressure to adopt easy money and stimulative policies whenever cold economic winds start to blow.

Today, though, easy money and stimulative policies aren’t enough. Or rather, they are so commonplace, so expected and banal, so much the warp and woof of Western political order, that it’s not enough – not nearly enough! – to have an incredibly accommodative and market-friendly policy of ultra-low interest rates and a massive balance sheet.

No, today just DOING the right policy isn’t enough. You’ve also got to SAY the right policy.

In fact, saying the right policy IS the policy.

And everyone knows that everyone knows this is true. It’s the most pervasive Common Knowledge of our modern economic lives, that the instrumental words of “guidance” are themselves the only policy of meaning.

We are all Epsilon Theorists now.

The seriously messed-up LOL part of this is that the most confirmed Epsilon Theorists today are the central bankers themselves, along with their staffers. How do I know?

Because they’ve started to create econometric models of the impact of their own empty words.

Case in point: BIS Working Paper 761 “Non-Monetary News in Central Bank Communication” by Anna Cieslak and Andreas Schrimpf, published last month. (h/t long-time ET reader and pack member Clive Hale).

The paper is written in the modern day cant of academic economics, with trenchant prose like this:

So the money quote will need a bit of translation.

“we show that the non-monetary information content—i.e., news about economic activity and shocks to risk premia—dominates more than half of communication events. … Risk premium shocks exert substantial nonlinear effects on asset prices, and their importance increases with the implementation of unconventional monetary policies.”

In English? Since the Great Recession, central banks – especially the Fed and the ECB – talk less and less about their actual monetary policy decisions. But they talk more and more about their expectations of investment risk and reward in capital markets. Their instrumentally constructed opinions about investment risk and reward – which are presented as “news” – move markets dramatically. And dependably. And predictably.

It’s not your imagination. The words of monetary policy authorities about everything BUT monetary policy have enormous power. More power than the monetary policies themselves. They know it. You know that they know it. They know that you know that they know it.

We’re a very knowledgeable family.

LOL.

The machines didn’t do this. The quants didn’t do this. We did this. We willingly gave ourselves to the Powells and the Draghis and the Bernankes and the Yellens. We willingly gave ourselves to the Cramers and the Hilsenraths and the Buffetts. We willingly gave ourselves to the Obamas and the Trumps. We willingly sold our soul to the Narrative devil.

And we’re not getting it back.

This is why your fundamental research doesn’t matter anymore.

This is why your fundamental research will never matter again.

We are all Epsilon Theorists now.

12+

18
Leave a Reply

Please Login to comment
  Subscribe  
Notify of
J Z
Member
J Z

The december FOMC standup chair against Trump and wall street print a S&P 2400 PUT on his head on Friday. I do NOT know whether Powell designed this experiment to gauge the market and FED communication method OR he did NOT know what he was doing in FOMC and later on changed his mind. I totally lost respect for Powell. Let’s see when S&P break down below 2400 and Powell reveal his next PUT. It… Read more »

Landvermesser
Member
Landvermesser

So how will the Weinstein moment of this particular Common Knowledge game play out?

1+
Mike S
Member
Mike S

Interesting Points/Reads, this am on this matter which is pure comedy and kabuki theater: *The entire US economy today is about the quick buck. It’s about tomorrow morning only because nobody has the guts to look at 10 years from now. That makes Jay Powell and his whole Federistas staff worse than useless. It makes no difference if perhaps jobs are doing well; the pre-Powell Fed launched a bubble and that bubble will burst one… Read more »

Mike S
Member
Mike S

Dean Baker this am…
I think we are seeing some modest inflationary pressure coming from wages, but it’s not there yet. In any case, it is likely a story of inflation rising to 2.5%, perhaps 3.0 percent, if the recovery contnues long enough. It is not a 1970s double-digit inflation story.

0
Peter
Member
Peter

Maybe it’s just pure hope on my part but it seems probable to me that Powell was getting so much pressure from within the Eccles building (think about the 300 Neo-Keynesian PhD’s as well as his colleagues at the FOMC, think about a true believer like Charlie Evans and former Goldmanite Kashkari) and outside influences ( the President and all the Wall Streeters) and he HAD to give them something. But he didn’t give them… Read more »

Christopher Beirn
Member
Christopher Beirn

Still a man hears what he wants to hear
And disregards the rest — Paul Simon

Beware confirmation bias, Ben.

2+
Scott
Member
Scott

I think you’re on to something Peter. You have a high priest, I mean FOMC Chair, that was under an incredible amount of pressure from literally everywhere (Can you imagine the Powell Christmas table? “Dad, pass the eggnog AND STOP TANKING MY 401K.), he was up there under the lights with two other old priests who certainly used to do some jawboning and they looked alright…and all he had to do was just…say…the…magic…words…. Just a… Read more »

J Z
Member
J Z

I have NO hope of Powell NOT going to cave. I actually do NOT think Powell caved. All Fed chairs want “normalize without causing asset prices drop”, same as what wall street, Cramers or the likes want. I think he did NOT reveal the PUT in December FOMC because he wanted to save it until necessary. You know, saving ammos. Then Manuchin tried, wasn’t enough and people thought that was amateur or incompetent. Then Apple… Read more »

Victor K
Member
Victor K

Regretably, I actually understand Equations (1) and (2) above, but I still haven’t a clue how the Fed and member banks interact with the UST and the open markets. I have yet to find a well written, succinct, and relatively jargonless (e.g. depository institutions, repo, discount window) summary and would very much appreciate any ET pack suggestions. Thx!

1+
Mike S
Member
Mike S

1. A Primer on
Money and Banking
Full Reserve Banking
A National Depository System
http://wfhummel.net

2. Soft Currency Economics II (MMT – Modern Monetary Theory Book 1) Kindle Edition
by Warren Mosler
https://www.amazon.com/Currency-Economics-Modern-Monetary-ebook/dp/B009XDGZLI/ref=sr_1_1?s=digital-text&ie=UTF8&qid=1352305630&sr=1-1&keywords=soft+currency+economics

Just my two cents…

2+
Mark Clark
Member
Mark Clark

It’s one thing to say that something doesn’t matter now but it’s going out on a limb to say that something will never matter again. Fundamental research will matter when people stop doing fundamental research. Early in this century the narrative was that home prices never go down. But as we learned in “The Big Short”, the people who did the basic, fundamental research on the subprime mortgages did quite well in the end. It… Read more »

J Z
Member
J Z

The stawk market emperor has two clothes. The fed has your back, the fed put. The other clothes is good growth of the economy or corp earnings. December FOMC says NO Fed put, and everybody can read numbers and conclude growth is bad and corp earnings is definitely bad once Apple announced. Between december FOMC and last friday, the market has NO clothes. Now the stawk market has one clothes and that is the Fed… Read more »

Larry Walker
Member
Larry Walker

Worth noting before Chairman Powell spoke (and gave more “guidance” was the multitude of stocks in various industries on sale – many of which had already been through a bear market over the last one to four years. To pick one industry: “Energy”: XOM at $65 – over ten percent LOWER than two years ago when oil was …. not $44 but $26 and yielding nearly 5%. Schlumberger at $35 off from the eighties within… Read more »

Mike S
Member
Mike S

Thanks for the hints Ben…In the big picture, we’re still in the middle of a technically uncertain game of Chicken between the U.S. and China. But Powell’s VERY public about-face on Friday, coupled with the VERY strong jobs report, creates a VERY different investment backdrop for the US-China trade impasse. ——————– Remember, these scenarios assume inflation remains contained. My general rule is this: The Fed will choose recession over inflation, but as long as inflation… Read more »

ET82
Member
ET82

“the warp and woof of Western political order” Haven’t seen or heard that expression used since Norton Juster’s The Phantom Tollbooth from 1961! And I wasn’t born until two decades later. Makes we wonder if anyone has co-opted Juster’s whimsical adventure as a suitable allegory for the era of financial insanity that has befallen our own Kingdom of Wisdom. There are some obvious corollaries, such as Rhyme & Reason being banished by the two powerful… Read more »

Peter
Member
Peter

It’s clear the Fed is putting on a full court press to control the narrative. What have we had, 10 Fed officials in the last 2 days talking about patience on rate hikes ? They know how to play that game and market “playas” know it too. But, Powell also went out of his way to say he wanted QT to go on, that the balance sheet was too big. He didn’t have to say… Read more »

David Robertson
Member
David Robertson

So, “This is why your fundamental research doesn’t matter anymore” and “This is why your fundamental research will never matter again” are pretty strong words. This seems especially so in the context of conditions laid out in “You are Here”. If “Cooperative and multi-play games in both international politics and domestic politics … are becoming competitive and single-play games”, which I believe they are, then it will become exceptionally difficult to manage capital markets as… Read more »

Disclosures

This commentary is being provided to you as general information only and should not be taken as investment advice. The opinions expressed in these materials represent the personal views of the author(s). It is not investment research or a research recommendation, as it does not constitute substantive research or analysis. Any action that you take as a result of information contained in this document is ultimately your responsibility. Epsilon Theory will not accept liability for any loss or damage, including without limitation to any loss of profit, which may arise directly or indirectly from use of or reliance on such information. Consult your investment advisor before making any investment decisions. It must be noted, that no one can accurately predict the future of the market with certainty or guarantee future investment performance. Past performance is not a guarantee of future results.

Statements in this communication are forward-looking statements.

The forward-looking statements and other views expressed herein are as of the date of this publication. Actual future results or occurrences may differ significantly from those anticipated in any forward-looking statements, and there is no guarantee that any predictions will come to pass. The views expressed herein are subject to change at any time, due to numerous market and other factors. Epsilon Theory disclaims any obligation to update publicly or revise any forward-looking statements or views expressed herein.

This information is neither an offer to sell nor a solicitation of any offer to buy any securities.

This commentary has been prepared without regard to the individual financial circumstances and objectives of persons who receive it. Epsilon Theory recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of a financial advisor. The appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives.