The Federal Reserve: The Only Game in Town?

With: Scott Minerd, Guggenheim Partners Global CIO, Portfolio Manager, Litman Gregory Masters High Income Alternatives Fund

Date: November 14, 2019

Jack Chee: I actually want to talk about some of the Fed's decisions. I know that you're a member of the Federal Reserve Advisory Committee.

Scott Minerd: Right.

Jack: I'm not quite sure what that actually means or what insights you have. If you could share about that.

Scott: It's all a matter of public record. But I notice when I read the minutes, they seem awfully sanitized.

We meet formally once every quarter for about three hours. There are a number of luminaries there. Ray Dalio is on the committee. Paul Tudor Jones. Any number of other people that are household names in investing.

Then they have people like me so they can get the common-man's view of the room.

In those discussions, there can be some pretty frank comments made. It's interesting – in the last meeting, President Williams toward the end of the meeting said, "You know, before we adjourn, we usually have –

President Williams likes us to have three topics. So we have an hour for each one.

One of us, and I get elected a fair amount there to present a deep dive on a topic. I just did, "The Spike in Fed Funds."

Jack: Right.

Scott: At the end of the meeting, President Williams looked around the table and said, "Okay. Before we go, I just want to take a survey. I want to know how many people here – whether you think we're going into a recession or not."

It was interesting. Pretty much as he went around the table, everybody was like, "We're going into a recession."

He was basically ready to adjourn. Then he said, "So it's unanimous. We're going into a recession."

I'm like, "Well, no." In my mind, the jury's out.

He said, "Why is that?"

I said, "Look. There's an old adage – 'Don't fight the Fed'."

I think as investors, all of us around this table need to have more confidence in our government's willingness and ability to print money.

Williams looked at me and said, "Scott, I think we've been pretty clear. Right?" We want continued expansion – maximum economic growth – and the lowest-possible unemployment rate.

He said, "I think we're saying the same thing." But he said, "When you say it, it sounds bad."

My response to John was, "Well, yes. But it sounds a lot more interesting the way I say it."

So I think the message is clear. The Fed –

I mean after that meeting, if I wasn't convinced at that point that we're going to do everything we can to avoid a recession –

Give the administration a chance.

Jack: Is the Fed really the only game in town? Or do we need to step in with more fiscal policy?

Scott Minerd: We don't really have much room left on fiscal policy. I do think there are some things to be done.

I had dinner with Art Laffer on Saturday. He's a good friend. Of course, Art never met a tax cut he didn't like.

But I think if we were to have a payroll-tax holiday, that would allow –

The payroll tax is the most-regressive of all taxes. It would allow lower-income people to take home a bigger part of their paycheck. That would stimulate consumption. You wouldn't have to necessarily make it structural. You could have it expire at the time you do it.

I think something like that would be very useful at this point.

The other thing, though, is – fiscal policy is sort of dead. A lot of the things that we need to do in this country to really increase productivity, we're not doing. Somehow the basic tenants of macroeconomics have sort of slipped off the table, and nobody really talks much about them anymore.

They talk about the Green New Deal or MMT or Medicare for All. Don't get me wrong; I think a lot of those ideas have some elements of merit in them. But we're not really dealing with the underlying structure of the economy, which allows output to rise.

We're being constrained by the fact that the factors of production based on current policies are being restrained in terms of their growth. That's what's really limiting the ability of the United States to grow.

Audience: It's interesting, if you watch the Fed's balance sheet. Of course it was declining and then it's spiking with the repo (repurchase agreement) funding. It's not QE (quantitative easing), but the market seems to think it is.

At this trajectory, we're going to be way past where we were a few years ago. What's your thought on that? Is it QE? Is it not QE? Is the market paying attention like it appears to be? Maybe what was the conclusion of your comments?

Scott: Sure.

I just spoke at Grant's Conference in New York a couple of weeks ago. I had the opportunity to present my view with Bill Dudley, the former president, sitting in the audience, in an unvarnished fashion.

Look – the whole dirty little secret around the spike in Fed funds is, there's not enough money to finance the government. The deficit's too big. The settlement of the treasury auction on the same day that tax receipts went to the treasury – it just finally broke the back of the system, and we needed more liquidity.

It's funny, because in the lead-up to that, you commented about me talking to people at the Fed. In the July meeting and the October meeting, I sat in the room and explained to them – I showed them data and said, "You know, I think you're being more restrictive than you think you are."

The combination of QE and raising the fund's rate is showing up in a lot of metrics. For instance, the spread between the Fed Funds effective rate and the interest on excess overnight reserves – or what I like to call EOR.

They were clearly having a problem keeping the funds rate capped. So finally, we had the issues that I described, and it was the straw that broke the camel's back.

Now the question of course, which I really have a hard time with – because I don't know why the Fed –

I know why the Fed doesn't want to admit it, but I say to the Fed, "I think the program is formally known as large-scale asset-purchases. I think treasury-bills are assets. And it looks like it's large-scale." Right? So I guess that's QE.

Now they get into this whole thing about, "No, it's really not QE because it's short-term investment versus long-term investment. Yet, these are the same people I was talking to back when they launched QE1, and I said, "Look. Why don't you concentrate the purchases of securities in long-duration treasuries and mortgages?"

They said that would be manipulating the markets and trying to affect the term-structure. Which is the reason they weren't going to do it. We all know they ended up doing it with Operation Twist and all this.

But now they're defining it and saying, "Well, it's not QE. Because QE is manipulating the shape of the yield curve."

Just remember one thing. These people are civil servants and they're working for the government. These ultimately are political jobs. So they're very concerned about any kind of repercussions of being criticized for what they're currently doing.

But I will say this. Given the tools they have at-hand, I think they're doing a fairly good job. They do screw it up from time-to-time, which I think they did going into December. But at least this time around they were quick to respond. They weren't so quick to respond when the housing crisis hit.

So just remember one thing. The source of and solution to every financial crisis is the central bank.