Wednesday, June 06, 2012 - Rally for Central Bank Juice - by Sinclair Noe

DOW + 286 = 12,414

SPX + 29 = 1315
NAS + 66 = 2844
10 YR YLD +.10 = 1.65%
OIL +.51 = 85.53
GOLD + 2.80 = 1620.70
SILV +.90 = 29.53
PLAT + 26.00 = 1468.00

There have been several ideas floated to explain today's rally on Wall Street: the markets were oversold, it was a technical bounce off the 200 day moving average, it was a dead cat bounce, traders who have shorted the market had to cover their positions, a response to Election Tuesday results, seller exhaustion, re-balancing, or my favorite – bargain hunting. How quick we forget. Goldman Sachs has already announced they expect the Federal Reserve to juice the economy and soon. So, apparently the work order has been submitted and now we just wait to see if Helicopter Ben can deliver the goods.

Today, the general market feeling was that some central bank somewhere would start throwing money at the banksters. European Central Bank President Mario Draghi suggested that further stimulus to tackle the euro zone's debt crisis would not necessarily be forthcoming, but speculation persisted that the ECB could act if financial market tensions intensify further.

The ECB left interest rates unchanged following its policy meeting today. The Euro economy is standing at the edge; unemployment is soaring; the Spanish banking system is on the verge of collapse; Greece is already toast. And it looks like the ECB is trying to make sure the Euro-politicians know they won't get any relief unless they enforce even more austerity and wage cuts in the south. Or maybe the ECB is unwilling to admit that their old policy, the rate hikes were a mistake; or maybe they believe that suffering is necessary to purge the system.

There is no historical support for the need to cut social spending to revive growth. From 1945 to 1990, per capita income in Europe grew considerably faster than in the US, despite its countries having welfare states on average a third larger than that of the US. Even after 1990, when European growth slowed down, countries like Sweden and Finland, with much larger welfare spending, grew faster than the US. Cutting social programs in socialist democracies is a surefire recipe for an economic downturn.

And so the Germans, responded today with a softer stance on Spain. German and European Union officials were seeking solutions for Spain's weakened banks. Spain has not requested aid and they are resisting the political conditions; the strings that would be attached to any bailout. The problem is that the contingent liabilities associated with bailouts have been sending citizens into the streets.

Spain admits they are losing access to credit markets due to prohibitive borrowing costs but they say they will just wait for an IMF report and an independent audit of the banking sector, both due this month, before taking decisions on how and how much to recapitalize the banks; estimates have been anywhere from $30 billion to $300 billion. Still, the scuttlebutt is that there is contingency planning underway for a Spanish bailout. And so today, Germany indicated, unofficially, just rumors, but they indicated they might pump up the Spanish banks without making embarrassing demands for new economic reforms imposed from the outside.

Let me be clear, a Spanish bailout means bailing out the Spanish banks. The $625 billion European Stability Mechanism, due to enter into force next month, could lend directly to Spain's bank rescue fund; maybe – it might not be legal but that doesn't seem to be a prohibitive factor.

Meanwhile, the tele-conference of G-7 finance chiefs wrapped up with the US Treasury proclaiming the group discussed “progress towards a financial and fiscal union in Europe” and agreed to monitor developments closely. The group made no joint statement and took no immediate steps. Wow, that is so incredibly bold. Meanwhile, the US is pressuring European governments to move toward financial and fiscal union, which would be a bold step, and the US wants to see the makings of a plan by a G20 summit in Mexico, on June 18-19. Which would be just after the Greek elections and just before the Federal Reserve FOMC meeting. And just a bit before the EU leaders next scheduled meeting on June 28-29.

So, the general feeling today was that some central bankers somewhere will juice the banking system in the near future. And just a few days after the worst day in the markets so far this year, Wall Street responded with the best day of the year. Woo hoo, the big bad bear is dead! What insanity. Let's forget about what's happening in the economy. Let's forget about the track record for successful resolution of crises.

Yesterday, I was less than sanguine about the ability of our institutional leadership to deliver us from evil, and I listed some of the bigger and more blatant failures of the past few years. A listener wrote and added to the list, saying: "And how about" when Alan Greenspan warned that surpluses were in effect, bad and that the proper method of handling surpluses was not to pay down debt but to give it all back in the form of tax breaks to the rich when he was hauled in to support and justify the Bush tax cuts in my view the very beginning of the whole downward spiral that preceded the two recessions since 2000. Where we're the deficit hawks then - What a bunch of hypocritical creeps. My .02 cents worth.

Dennis Lockhart, the president of the Atlanta Federal Reserve Bank says risks to the economy "are gathering." Lockhart said that he saw a higher probability of a negative influence on the US economy coming from Europe. Lockhart said his baseline forecast was for a continued, though modest, growth. If this no longer looks realistic, further Fed action "will certainly need to be considered." The Fed must "maintain a state of readiness" to respond to financial and economic instability should the need arise. San Francisco Fed President John Williams said demand for U.S. exports has been cut, as the value of the dollar has risen and investors have flocked to the safety of Treasurys. Williams says the danger posed by the European crisis is one reason the economy might perform worse than expected. It is crucial for the Fed to maintain its easy monetary-policy stance and the central bank should also "stand ready to do even more if needed."

Bernanke testifies before the Joint Economic Committee tomorrow. If he is more negative than positive in his remarks, it might indicate another round of Fed easing is in the offing, as early as the June 19/20 meeting. Maybe. Bernanke might even go against convention and tell the Congressional do-nothings that they need to start doing something. Somebody needs to tell the Congress that their partisan blithering is hurting the economy and they could actually do something to make a positive difference if they wanted to, and the only reason they don't is because they would clearly sacrifice the economy on the alter of political aspiration.

Still, the market was looking for the Fed to ride to the rescue with another round of quantitative easing, even though they keep saying they will watch developments, even though there is a good chance Bernanke will use his testimony to reprimand politicians. Maybe Bernanke will step up where the ECB refused to step up. Probably not. Most likely they will all wait for the situation to get worse before they jump into the fray. Keep the powder dry. No rush, after all the austerity doesn't hurt them.