Wednesday, March 23, 2016

How the Fed Abdicated its Independence to White House Geopolitical Strategy on Russia For Nearly Two Years

[Note from the Saker: I take no position on the thesis presented in this article, but I do find it very interesting and I therefore decided to submit it to you all for discussion.]

by Brandon J. Ferro for Only Price Matters

In the chart below I plot crude, the Russian Ruble (RUB) and OPEC production.

From 2012 through mid-2014 all three print sideways.

However, to the day beginning on 7/29/14, crude and RUB begin to collapse while OPEC production soars.

Why such an abrupt reversal and why so vividly in lock-step, highly correlated fashion together?

Because on 7/29/14 the US and EU announced new, expanded sanctions on Russia designed to tighten the economic vice on the country for its involvement in the annexation of Crimea from Ukraine.


In other words, while the US publicly announced the latter sanctions, it simultaneously and surreptitiously initiated another, non-public sanction, namely crushing the price of crude oil to hurt Russia where it feels it the most.

How could the Obama administration accomplish such a challenging goal with crude prices being dynamically set on global markets on a daily basis?

The chart makes that answer fairly obvious.

The Obama administration asked demanded that the Federal Reserve abdicate its monetary policy independence to a higher calling, namely White House geopolitical strategy, by shifting to a tighter, more hawkish stance that began to intimate future rate hikes, thereby creating the conditions necessary for a major USD rally, which could in turn drive USD-denominated crude prices lower.

Luckily for the White House, the Fed had an FOMC meeting the day after Obama and the EU announced their expanded sanctions on Russia, a meeting it used to begin pivoting hawkishly.  This pivot was accomplished via a planted dissenting vote from Charles Plosser as follows:

“Voting against was Charles I. Plosser who objected to the guidance indicating that it likely will be appropriate to maintain the current target range for the federal funds rate for “a considerable time after the asset purchase program ends,” because such language is time dependent and does not reflect the considerable economic progress that has been made toward the Committee’s goals.”

But a USD rally alone would not be enough to inflict the desired damage to crude prices.  Crude production would need to soar with a USD rally.  Thus, concurrent with its demand to the Fed, the US pushed its Sunni Arab allies in OPEC to ramp crude production.  Like the Fed, they obliged.  And, why not?  While they could survive a temporary collapse in crude prices, their US-based, debt-ridden shale competitors were unlikely to fare as well.

How did all of the above ultimately turn out?  Swimmingly – over the ensuing 18 months the USD more than doubled vs. the RUB while rallying 25% more broadly as crude plunged 75%.

2016-03-17 Crude-RUB-OPEC Production - Daily

However, all of a sudden beginning on 2/11/16 all of the above began to change; after bottoming around ~$26 on that day crude has soared to $40 while the RUB has risen to $68 against the USD from below $80.

Why?

Because on 2/11/16 the US and Russia announced they had come to terms on a cease-fire agreement in Syria.

In effect, Putin used  a military intervention in Syria as a masterstroke of geopolitics, crushing the US-backed rebel forces there in the process, thereby turning the tables against Obama and horse-trading himself out of the pinch he had been in by getting the Americans to let up on crude price pressure if he agreed to pull-out of Syria and leave Assad to fend for himself alone on human rights issues in the process.

With the latter agreement in place, the Federal Reserve, once again able to get back to the business of conducting the monetary policy we all know it always wants to conduct, concluded its FOMC meeting this week by back-tracking on 18 months worth of hawkishness and intimating via its dot plots that fewer rate hikes were likely on the table for 2016.

2016-03-17 Fed - Dot Plot

And with that retreat, we can return to our regularly scheduled programming of bubble creation.

No comments:

Post a Comment