Free money, like anything else that is free in a market system, tends to be wasted. If it is wasted, it doesn’t promote the growth that the markets have anticipated. If the illusion is finally dissipated, then along with it, will perhaps go the central banker’s most effective tool

Central bankers sometime seem like masters of the universe. With a few words Ben Bernanke, former chairman of the Federal Reserve (Fed) sent markets reeling in what has become known as the temper tantrum. Mario Draghi, the present chairman of the European Central Bank (ECB), is credited with saving the euro with his famous promise to do “whatever it takes.” Certainly credibility is one of the most important tools in a central banker’s arsenal. When they speak markets are supposed to listen and react. But what if they don’t?

Janet Yellen spoke last week after the monthly meeting of the Federal Reserve. As usual she made calming noises reassuring investors that interest rates would remain low for a “considerable time”, a now famous phrase. There was much speculation among commentators that it would be taken out, but it wasn’t.

After such reassurance normally interest rates and the dollar drop. With the promise of more stimulus interest rates usually retreat and along with them the dollar weakens. But that didn’t happen. US interest rates have been climbing since they reached a low of 2.33% for the ten year Treasury Bill on 27^th August. They now are trading at 2.62% a 12% rise in about two weeks.

With the rise of US interest rates and the strengthening of the dollar, the FTSE Emerging Market index has fallen 5% since 8th September. This could be because of weakness in China, Brazil and Russia, but it could be about something else. According to the Bank for International Settlements (BIS), emerging markets have borrowed $375 billion between 2009 and 2012. The total number for 2013 and 2014 is undoubtedly higher. But even this number is twice what they borrowed between 2004 and 2008. With interest rates rising and currencies falling, there could be some major problems.

Janet Yellen’s soothing words certainly did not affect her own board. The Federal Reserve Act of 1913 determines the Fed’s structure. It was the last of a long line of controversy surrounding a central bank that goes back to the beginning of the republic. The result of the controversy created a rather unique organization. The Fed is made of 12 different banks from all over the US. Each of these regional banks has a president. In addition there are seven governors. The bit that decided interest rates is called the Federal Open Market Committee (FOMC). It is made of up the seven governors plus the president of the New York branch, usually considered the most important. In addition there are four presidents from the region who rotate.

Historically, the presidents have been far more hawkish, in favour of raising interest rates, than lowering them. All members, there are presently 17, participate in the discussions, but only 12 vote. Consistent with history two of the four voting bank presidents dissented from the most recent decision of the committee. They wanted to insert language implying an earlier rate rise.

All 17 also issue forecasts. All of these forecasts are combined to make up the infamous dot chart. The dot chart has one dot for each forecast. Each dot gives a forecast for the individual member for the coming years.

The interesting thing about the forecasts is that they are rising probably much faster than Yellen has communicated. The Fed members now expect the Federal Funds rate, the benchmark interest rate, to reach a median level of 1.375 % by the end of 2015. This forecast is up from 1.125 % at the June meeting. Rates forecasts even further in the future are even higher. The median rate forecast for 2016 is 2.875 % compared to 2.5 % at the June meeting.

In short, the members are forecasting higher interest rates despite Chairperson Yellen’s softer tones. Also if we assume, as many do, that interest rates will not begin to rise until June 2015, then in order to reach the forecast rate, rates will have to rise quickly. The present target rate is 0.25%. If it were to increase to 1.375% by the end of 2015 that would mean a rise of 1.125% over six months or almost 25 basis points a meeting.

Janet Yellen magic may be wearing thin and she isn’t alone. Her colleague Mario Draghi is still trying to do “whatever it takes”, but is not getting very far. This week the ECB held its first auction of cheap loans. A program with the unwieldy acronym of TLTRO (Targeted Longer-Term Refinancing Operations) Of the €400 billion on offer, only €82 were purchased. In short, as a substitute for a European QE the TLTRO fell far short.

Haruhiko Kuroda, Governor of the Bank of Japan, has instituted a massive QE program. But it has one real problem. It hasn’t really worked. Inflation is barely positive thanks only to a weak yen. The economy isn’t growing and the Japanese are getting poorer.

It is rather late in the day for what was once seen as bold experimental programs. Up to this point markets have whole-heartedly supported the torrent of free money. But free money, like anything else that is free in a market system tends to be wasted. If it is wasted it doesn’t promote the growth that the markets have anticipated. If the illusion is finally dissipated, then along with it will go perhaps the central banker’s most effective tool.

(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first-hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and speaks four languages.)