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‘Hall Of Mirrors’ Effect Strikes Again, As Bank Cites ‘Circularity Argument’ In New Fed Forecast
"We think the Fed runs the risk of causing a significant tightening of financial conditions if it disappoints market expectations by remaining on hold", BNP writes in a Wednesday note, changing their Fed call to include another rate cut at the October meeting.
In and of itself, this isn't really notable, but as alluded to in that brief excerpt, the color the bank employs in explaining the situation is very pertinent and speaks directly to the "hall of mirrors" effect we've discussed here at l
The interesting part in this circular logic inside the house of mirrors, is the ultimate unknown as to what happens to the game where people chase yields and look to things like treasuries for safe havens — thus as rates trend to zero and the arbitrage game gets sort of weird with negative rate hedging, how does this impact collateral, risk and funding future value needs? Of course that type of unknown also intersects the Treasury and Fed in terms of how they (along with market players) adjust to a new world of maturity and duration challenges. Perhaps politicizing central banks, someone wins a game to continue cutting rates to zero, but just as there was wide-spread recent confusion about IOER mechanics, who will be able to explain what is being won and why? This is a very abstract game inside a hall of mirrors that will expand into a house of mirrors built on top a house of cards and everyone playing has schizophrenia or what trump has with psychosis and dementia =- should be super fun …
From the FOMC minutes: A few participants judged that the expectations regarding the path of the federal funds rate implied by prices in financial markets were currently suggesting greater provision of accommodation at coming meetings than they saw as appropriate and that it might become necessary for the Committee to seek a better alignment of market expectations regarding the policy rate path with policymakers’ own expectations for that path.
Good luck with that.