Saturday, January 07, 2012

Politicization of the Financial Markets

Below is an example of what I have been calling as the politicization dynamics of the financial markets.

Writes fund manager Axel Merk [who calls this celebrity central banking], (bold emphasis mine)

Swiss National Bank (SNB) President Philipp Hildebrand finds himself in the hot seat. SNB rules prohibit his family from trading based on non-public monetary and foreign exchange intentions of the SNB (c.f. §4). His wife netted a 60,000 Swiss franc profit buying, then selling U.S. dollars, all within a month; her husband’s intervention in the currency market was mostly responsible for the gain. Arguably, she traded to make a profit, publicly explaining, “what motivated me to buy dollars was the fact that it was at a record low and was almost ridiculously cheap”. In instructing her account manager, however, she emailed that her motivation was to manage the share of US dollars in their asset mix as part of a long-term investment allocation (c.f. Hildebrand statement).

The court of public opinion might be more damaging than the legal process in a country with a tightly knit elite that favors consensus over controversy. Relevant for policy makers and investors alike is that this episode highlights the vulnerability of what we call celebrity central banking. That is, central banking that heavily relies on the persona rather than underlying policy. In Switzerland, the 2009 attempt to peg the Swiss franc to the Euro was mostly driven by Hildebrand; similarly, last year’s introduction of a ceiling for the Swiss franc versus the euro is again mostly attributed to Hildebrand. The 2009 peg was given up after it proved too expensive. The 2010 intervention has, so far, held. But it is entirely dependent on the market believing that the SNB will do “whatever it takes” to keep the Swiss franc from rising….

What the Fed and the SNB have in common is that they are both run by celebrities. Bernanke has appeared on “60 Minutes”; Hildebrand is also learning what it means to be in the media limelight. Policy makers only have themselves to blame with the market’s obsession with their personas. If they pursued sound monetary policy rather than try to micro-manage their respective economies, market forces could play out. Instead, we may have capital chase the next perceived move of policy makers, leading to capital misallocation, greater volatility, and ultimately more intervention; a self-reinforcing cycle. The public has a high price to pay for modern celebrity central banking.

Conflict of interests (agency problems, regulatory capture and arbitrage), insider trading based on actions of politicians or bureaucrats, intensive lobbying and anticipating political actions by policymakers becomes the major thrust of market participants, instead of working to satisfy the consumers.

End result: vast distortions of the marketplace, malfeasant actions by political actors and their networks and boom bust cycles.

No comments: