Did you know the Fed has been off by orders of magnitude on nine straight annual economic forecasts? Did you know the Fed has never accurately forecast a recession in 105 years? I could go on, but you get the point.
The Fed has the worst forecasting record of any major finance-oriented institution. It’s not because they’re dumb (they’re not), but it is because they have deficient models and don’t see the deficiencies. That’s why it was nerve-racking when Simon Potter, market chief of the Federal Reserve Bank of New York, recently said, “The monetary policy implementation framework continues to provide the FOMC with excellent control over overnight money market rates, and has proven its ability, including recently… to flexibly respond to new developments.”
In other words, “Don’t worry folks, we’ve got everything under control.” Of course, the Fed has nothing under control and worse yet doesn’t realize it.
This article explores the Fed market chief’s remarks made recently in Manila. The remarks are a case study in model complacency as the source of market complacency.
Everything Potter said is exactly right until the moment it isn’t. Market rates can soar or crash. Liquidity preferences can turn on a dime. “Excellent control” is no more than a mirage. Fed policy’s “proven… ability” is another mirage.
Potter’s remarks will go down in the history books right next to Bernanke’s assurance in mid-2007 that the mortgage crisis would blow over. Yet all investors can be grateful to Potter for his remarks. Self-assurance and overconfidence based on a shortsighted reading of history are fair warning that the Fed is blundering into another abyss and will take the markets with them.
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