The stability of the international government-bond market matters more to central bankers than stemming inflation, according to an expert in global money flows.
While Wall Street, and Twitter’s legion of Wall Street wannabes, are busy predicting when the Federal Reserve will call it quits on rate hikes, the real pivot in monetary policy might have slipped right under their noses.
Global liquidity — a measure of how much money is sloshing around in the financial system — has been on an upswing since October, according to research from CrossBorder Capital, a London-based firm that specializes in monitoring global capital flows.
The uptick may explain why stocks, bitcoin and gold have rallied despite central bank warnings that they aren’t about to let up on hiking rates. On Wednesday, the Federal Reserve again raised its benchmark rate, this time by 25 percentage points, but gave no indication that it would halt the tightening cycle anytime soon.
“What we monitor is whether central banks or banking groups are feeding liquidity into the pipes,” Michael Howell, the managing director at CrossBorder Capital, told Forbes. “There’s been a de facto change since September.”
Without getting into the nitty-gritty, new capital has come via the Fed’s reverse repo facility and the People’s Bank of China’s interventions into money markets, according to Howell.
What caused the change, at least for the Fed, was the recent “debacle” in the U.K. sovereign-debt market, Howell said. Investors sold off the government’s bonds amid a dire economic outlook and political uncertainty. What ensued was what many analysts referred to as a “market meltdown” in what has historically been one of the safest corners in all of finance. Think it wasn’t a serious glitch? It ended up costing the prime minister her job.
So it’s no surprise then that central banks are less concerned about reining in inflation than they are keeping the financial system’s gears greased.
“I think the most important factor above anything else is the integrity of the sovereign-debt market,” Howell told Forbes. “That’s what this is all about, really. If you get a blast like you got in Britain in the U.S., we’ve all got a problem. If that happened in the U.S., the financial market would have been ended. You might say very loosely that we’re moving toward a world of yield curve control. Inflation is an issue, but it plays second fiddle to the workings of the sovereign-debt market. ”
The idea of tracking liquidity isn’t new. Howell cut his teeth at Salomon Brothers in the 1980s and told Forbes that measuring capital flows was a key to the firm’s trading success. No less a personality than billionaire investor Stan Druckenmiller has said that it’s “liquidity that drives markets.”
But measuring capital flows is easier said than done. Howell told Forbes that calculating bank deposits was once enough, but decades of financial innovation and the rise in shadow banking have turned a simple calculation into an esoteric exercise.
That may explain why a lot of investors are still waiting for a train that’s already left the station.
“To put it brutally, many people need to be re-educated,” Howell told Forbes. “If you pick up a textbook, they talk about the rate of interest. That’s not how the world works. It’s about the capacity of capital, not the cost of capital.”
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