Markets hang on bankers an ocean apart

BY THE time you read this, US Federal Reserve chairman Ben Bernanke will have spoken at the Federal Bank of Kansas City's annual symposium at Jackson Hole, a picture-perfect resort nestled against the alpine-esque Grand Teton mountain range in Wyoming.

His speech overnight is one of two set pieces that the markets have been salivating over. The other is the European Central Bank's meeting next Thursday night Australian time, after which ECB president Mario Draghi is expected to flesh out his plan to save the euro and the European Union.

Draghi's deadline is the more important of the two, but the markets have invested emotionally in both. They are only capable of seeding a recovery, at best, however. The final verdict on any initiatives they announce will not come until next year.

The Jackson Hole meeting is a wonk-fest that has been run since 1982. Less than 200 people turn up, but it's a powerful group, headed usually by the Fed's chairman and the European Central Bank president.

Draghi has mailed in a ''regret unable'' message this year as he grapples with Europe's crisis, but the markets are still expecting the conference to produce some intellectual leadership, as it did in 2005, for example, when the-then International Monetary Fund chief economist Raghuram G. Rajan basically predicted the global crisis, and some news the markets can immediately use, as occurred two years ago when Bernanke as good as promised a second round of quantitative easing - an injection of cash into the economy as the Fed buys government bonds from private sector banks.

The speech Bernanke delivered on August 27 of that year sparked a market rally in anticipation of a formal QE2 announcement: the announcement duly arrived in November, and by the end of the year the Standard & Poor's index was up by 20 per cent.

There was some doubt yesterday ahead of this year's Jackson Hole speech about how prescriptive Bernanke could be. He was expected to discuss the challenges facing the US economy, including lacklustre growth, continued high unemployment and the threat posed by America's ''fiscal cliff'' - automatic tax increases and government spending cuts that are scheduled to kick in from January 2 next year as a result of Congress' failure to agree to cut the US deficit by $US1.2 trillion over a decade.

Bernanke has already warned that the cuts would undermine economic growth, but talks in Washington about postponing or staggering them have been inconclusive, and the process is now falling into the shadow of the November 6 presidential election.

He is also expected to talk about the Fed's inclination to inject more adrenalin, almost certainly in the form of another round of quantitative easing, but his capacity to surprise on that front has been limited by last week's release of minutes of the Fed's last rate-setting meeting.

They revealed that many members of the rate-setting Federal Open Market Committee ''judged that additional monetary accommodation would likely be warranted fairly soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the economic recovery''.

That was a clear pointer to action in the near future, and it's unlikely to have been changed materially by this week's ''beige book'' economic snapshot from the Fed, which showed the US economy growing, but at an anaemic pace.

Jackson Hole might produce more detail. The market's ultimate response is pinned, however, not only to what Bernanke and Draghi say, but on what they do, when they do it, and what real-world effect they produce.

Draghi's plan for the ECB and the European Union to push Spain and Italy's borrowing costs down by standing in the market for their bonds is, for example, contingent on a raft of bureaucratic and political decisions, including confirmation from Germany's highest court on September 12 that Germany is constitutionally capable of partly funding the defence.

Germany's own central bank, the Bundesbank, is also opposed to ECB bond-buying, although German Chancellor Angela Merkel supports it.

As Michael Lewis also observed in his global crisis commentary, The Big Short, the 2007-09 crisis that crushed US economic growth and led directly to Europe's government debt crisis was not a traditional market panic.

''In an old-fashioned panic, perception creates its own reality: Someone shouts 'Fire!' in a crowded theatre and the audience crushes each other to death in its race for the exits,'' he wrote. ''On Wall Street in 2008 the reality finally overwhelmed perceptions: A crowded theatre burned down with a lot of people still in their seats.''

What Lewis means is that we are not just dealing with a perception problem. The damage is real. National balance sheets on both sides of the Atlantic and private sector bank balance sheets in Europe need to be deleveraged to lay secure foundations for global growth.

Confirmation that Bernanke is moving to add more adrenalin to the US economy and confirmation next week that Draghi has a workable plan to defend Spain and Italy would trigger a ''risk off'' sharemarket rally as investor confidence improved. The final prize is real growth in demand in the US and Europe. However, it won't be clear whether that is being delivered until the first half of next year at the earliest.

The story Markets hang on bankers an ocean apart first appeared on The Sydney Morning Herald.

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