It is almost universally accepted that the FOMC has only a brace of tools with which to manage U.S. economic activity, quantitative easing (QE) and establishing the fed funds rate. Janet Yellen and her FOMC have demonstrated over the course of the past several months that a third mechanism exists; for lack of a better term, let’s call it the X factor.

What Is the X Factor?

Although the Federal Reserve is a self-described independent agency whose aim is to manage the economy in the best interests of the people, it almost certainly strives to please two masters, one being the public and the second being the administration in power. As Thomas J. DiLorenzo famously quipped, “a non-political government entity is as likely as a barking cat.”

Consider the possibility that Fed Chair Yellen is using a third tool, the X factor. The X factor may be best described as subtle misdirection.  For example, although hinting at a probable rate increase for at least 18 months, a rate hike has yet to materialize. To suggest a rate hike is probable, then failing to follow through with a rate increase is, in itself, a manipulation of the economy. In short, Chair Yellen is not the flip-flopper many perceive her to be, but rather an accomplished manipulator. To believe otherwise is delusional.

The Strong Dollar

In the run-up to the FOMC’s meeting, the Dow experienced a substantial correction. As investors fled the stock market for the perceived safety of the treasuries, the U.S. dollar gained value against the world’s major currencies. While at first blush, this may be viewed as a positive development, we all understand the debilitating effect this has on our manufacturers in terms of the export market. Goods from the United States become more costly abroad and exports plummet. When the manufacturing sector grows less competitive in overseas markets, jobs in the U.S. are in peril. Further job losses only serve to weaken the struggling economy.

These facts are not lost on the FOMC and its Chair. By citing the Chinese stock market turmoil as the principal driver for maintaining rates at the current level, Yellen spared the administration from taking the lion’s share of the blame, effectively deflecting attention from slow GDP growth, anemic job growth and borderline deflation.

By holding rates at the current level, Yellen succeeded in reinvigorating the stock market, which depressed the value of the U.S. dollar, giving hope to the manufacturing sector and averting additional job losses. All this was accomplished without altering the rate by as much as a basis point. Taking a page from the political class, Yellen has been able to manipulate the economy by floating a balloon here and a balloon there.

Hedge Fund Managers

Fund managers that understand the X factor, as used by Chair Yellen and her FOMC, will hold the high ground in terms of strategic planning for their respective funds. She has proven herself to be a great deal more clever than many of her critics have allowed. For this reason, fund managers should not deign to predict the outcome of future FMOC meetings until they have read thoroughly between all of the lines.

 

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