Money

By Jonathan Spicer
Mon Jun 24, 2013 12:11am EDT

(Reuters) – Through the dark days of the financial crisis, and the grey days of the halting recovery that have followed, investors have always been able to count on backing from two sources – Ben Bernanke and Beijing.

They have provided stimulus, mainly by pumping funds into the U.S. and Chinese economies in various ways, when other pillars of support had become unreliable.

That helps to explain why global financial markets took such a beating last week when both signaled that they are getting tired of being leant on so heavily.

Bernanke, the chairman of the U.S. Federal Reserve, set a timetable at last week’s Fed meeting for the central bank to reduce the size of its bond buying program with a view to ending it by the middle of next year.

Meanwhile, his counterparts at the People’s Bank of China (PBOC) engineered a cash crunch as a warning to overextended banks – and this from a central bank that has previously always provided liquidity when cash conditions tightened.

A lot will now depend on whether this kind of behavior from either hurts the global economy enough to seriously damage the confidence of businesses and consumers, with the resulting fallout for spending, corporate profits, and hiring.

“A trading environment once predicated on free money forever is now being reassessed,” said Eric Green, TD Securities’ global head of rates research, in a note to clients. The prospects of the Fed stopping its easy money policies “leaves few willing buyers to step in” as prices drop, he said.

In China, a sudden leap in rates for short-term borrowing to record highs should help rein in so-called shadow banking, the lending being done by non-bank institutions, but there is the risk of a miscalculation that could set off a full-blown banking crisis even as the economy is showing fresh signs of slowing.

“It does create a lot of repayment risk within the system between financial institutions and there is potential for unintended consequences,” said Charlene Chu, senior director at Fitch Ratings.

BULLARD’S WARNING

A possible miscalculation is also the concern of St. Louis Federal Reserve President James Bullard, who complained that Bernanke spoke too soon about reducing stimulus last week.

Neither the central bank’s own economic growth forecasts nor its expectations for continued weak inflation supported a decision just yet to dial back on the $85 billion a month it has been pumping into the financial system, the St. Louis Fed said in explaining Bullard’s thinking.

Bullard, who dissented against the decision, wanted “a more prudent approach,” that would have meant waiting for clearer signs that weak inflation would rebound.

While Bernanke made it clear that the Fed’s actions would depend on whether the economy continues to improve, he based his forecast on expectations that growth will be buoyant enough to bring the U.S. jobless rate down to near 7 percent in a year’s time from its current rate of 7.6 percent.

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