Gross is the founder and co-chief investment officer of Pimco and he writes a regular letter to investors which he posts on the firm's website. The latest letter is entitled “Wounded Heart” and he warns investors to reduce risk assets as a result of the weak rewards to be gained. Gross characterized the Fed's zero interest rate policy and quantitative easing as distorting markets by keeping interest rates artificially low and creating an insatiable demand for riskier, higher yielding assets.
Gross wrote: "Our global financial system at the zero-bound is beginning to resemble a leukemia patient with New Age chemotherapy, desperately attempting to cure an economy that requires structural as opposed to monetary solutions.”
Gross also wrote: “Central banks — including today’s superquant, Kuroda, leading the Bank of Japan — seem to believe that higher and higher asset prices produced necessarily by more and more QE check writing will inevitably stimulate real economic growth via the spillover wealth effect into consumption and real investment. That theory requires challenge if only because it doesn’t seem to be working very well.”
The quick version of Gross' thesis is that financial markets require “carry” to pump oxygen to the real economy; “Carry” is compressed – yields, spreads and volatility are near or at historical lows; the Fed's QE plan assumes higher asset prices will reinvigorate growth; it doesn't seem to be working; therefore reduce risk/carry related assets.
Gross may have a point, but then he missed his mark claiming that low rates create less incentive to take risk; and while that may be true, it is the wrong answer. Gross seems stuck in his supply-side world. The answer is not creating more credit, but creating more demand. Short-term the Fed has been able to re-inflate the stock market, and Bernanke makes no bones about that, but it is a dangerous game to inflate asset bubbles, and it doesn't really do much to create jobs. If the Fed really wants to lower the unemployment rate, they will have to change their tactics, and that seems to be what the Fed is priming the markets for right now.
Today, Esther George, president and CEO of the Federal Reserve Bank of Kansas City and a member of the Federal Open Market Committee, which determines central bank monetary policy gave a speech and she said she is in support of "slowing the pace of asset purchases as an appropriate next step for monetary policy." While she acknowledged her views are not shared by the "majority" of the voting members of the FOMC, it created fresh uncertainty about when the Fed will start dialing down its stimulus. This is the dangerous gamble part of the Fed's asset bubble policy
George went on to say: "History suggests that waiting too long to acknowledge the economy's progress and prepare markets for more normal policy settings carries no less risk than tightening too soon," and "A slowing in the pace of purchases could be viewed as applying less pressure to the gas pedal, rather than stepping on the brake. Adjustments today can take a measured pace as the economy's progress unfolds." It's not so much a matter of applying the brakes, as it is that the Fed is in the wrong vehicle.
Back to those systemically dangerous, too big to fail institutions. Back in 1999, then deputy US attorney general Eric Holder wrote a memo entitled “Bringing Criminal Charges Against Corporations,” in which he argued that government officials could take into account “collateral consequences" when prosecuting corporate crimes.