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What if QT, in Practice, Is Actually an Inflationary Accelerant?

13D Research  ( Original )
MAR 28, 2018

As a trader, you learn very quickly that concepts and ideas that may make all the sense in the world in an academic environment and should work in actual markets do, in fact, not. For a thousand reasons, not limited to human emotion, manipulation, unforeseen market participants/forces, etc. etc.

Which is why as soon as you hear an economist start a sentence, “In theory…” you can take a quick nap. They’re immediately disqualified what they’re about to say as meaningless. The larger problem is that they usually don’t distinguish between theory and practice, and the Fed has had a long line of academics who thought and enacted policy like they are one and the same.

It is a sign of our debt-dependent times that forecasts for huge federal borrowing needs — now in excess of 100% of GDP within a decade — barely induce a shoulder-shrug. This stands in sharp contrast to the 1980s, when federal publicly-held debt topped-out at nearly 40%, and many observers warned of doomsday scenarios.

But demographics were more favorable then, as was productivity growth, financial-sector deregulation, and the benign inflationary environment. These factors have largely turned into headwinds, but complacency over rising debt and deficits has persisted anyway.

Sooner or later, a reality check will occur, which is why the TIPS market should be setting off alarm bells. Adding to this concern has been the recent blowout in LIBOR and the LIBOR-OIS spread to levels last witnessed during the GFC — a sign that monetary policy has tightened considerably.

The possibility of a spike in yields should have the bond market more worried. But after years of central-bank-policy distortion, and with most market participants too young to remember the last true bear market, few will be adequately prepared when the yield spike finally appears. The federal budget will be devastated if and when that happens.

ORIGINAL SOURCE: Will Quantitative Tightening (QT), which is deflationary in theory, be inflationary in practice? at 13D Research on 3/28/18