The Fed performed a $260MM reverse repo test yesterday morning in order to “ensure that this tool will be ready if the Federal Open Market Committee decides it should be used.” Of course, this is the Fed’s way of saying that they want to be on the ready when tighter monetary policy is necessary. These little tests are just small scale ways of making sure that the QB’s arm is loose before he needs to go into the game. The NY Fed explained clearly that these are merely tests and do not reflect any change in monetary policy:
“Like the earlier operational readiness exercises, this work is a matter of prudent advance planning by the Federal Reserve. The operations have been designed to have no material impact on the availability of reserves or on market rates. Specifically, the aggregate amount of outstanding transactions will be very small relative to the level of excess reserves, and the transactions will be conducted at current market rates. These operations do not represent a change in the stance of monetary policy, and no inference should be drawn about the timing of any change in the stance of monetary policy in the future.”
I am still not convinced that Mr. Bernanke can talk inflation into the global economy although asset markets certainly appear to disagree with me in the near-term. I don’t want to read into these tests at all (it is very clear that the Fed intends to remain accommodative for “an extended period”), but it’s hard not to view this as Mr. Bernanke perhaps being a bit more concerned about inflation and unintended consequences than he leads on. After all, you don’t tell the QB to warm up if you don’t even intend to use him. Perhaps worse, however, this makes me wonder if Mr. Bernanke even understands the implications of the levers he is pulling. He famously trashed the Japanese in 1999 for not trying anything and everything:
“Japan is not in a Great Depression by any means, but its economy has operated below potential for nearly a decade. Nor is it by any means clear that recovery is imminent. Policy options exist that could greatly reduce these losses. Why isn’t more happening? To this outsider, at least, Japanese monetary policy seems paralysed, with a paralysis that is largely self-induced. Most striking is the apparent unwillingness of the monetary authorities to experiment, to try anything that isn’t absolutely guaranteed to work.”
Paul Krugman recently said that this exact sentence is now perfectly applicable to the USA. Boy is he right about that. Bernanke never could have imagined that he’d so arrogantly rail against the Japanese only to find himself in their exact shoes just a decade later. Except Mr. Bernanke isn’t hesitant to try anything and everything. The problem is, he doesn’t seem to be sure what is going to fall out of the sky after he pulls each lever. In other words, he is just as clueless as the same Japanese bankers he arrogantly berated.