Given the abject failure of MP1 (the first round of money printing, aka. quantitative easing, QE1) to get credit flowing again, create jobs, and generally spur economic activity, it is reasonable to ask why we would expect MP2 QE2 to have any discernable, lasting effect on the Real Economy. The Federal Reserve has a dual mandate to keep prices stable and maximize employment. Despite buying $1.3 trillion worth of agency debt (Fannie & Freddie MBS), house prices are falling again. As for the jobless rate, no comment is necessary.
Various Fed officials have been talking up MP2 QE2, which by all reports is scheduled to begin shortly after the November elections. As Reuters' James Saft reports, the talk is scary, not to mention crazy—
A round of speeches from key Fed officials has given the clear view that, faced with deteriorating conditions and trapped by the lower bound of zero in its monetary policy, the Fed is preparing to once again buy up large amounts of Treasuries, perhaps even more than the government is issuing on an ongoing basis, in an attempt to drive down market interest rates and stimulate the economy.
What's the plan?
“Balance sheet policy can still lower longer-term borrowing costs for many households and businesses, and adds to household wealth by keeping asset prices higher than they otherwise would be,” [Brian] Sack said in a speech in Newport Beach, California on Monday.
“It seems highly unlikely that the economy is completely insensitive to borrowing costs and wealth, or to other changes in broad financial conditions.”
So, there you have it: pump up asset prices and hope that people spend some of the ephemeral gains. The idea that people will spend more if their houses and other assets rise in value is called the wealth effect, but this policy creates only pretend wealth.
[My note: Brian Sack is the markets chief of the New York Federal Reserve. According to Saft, his job will be to implement the second round of large-scale quantitative easing coming after the elections in November.]
In other words, the Federal Reserve would like to return to the Glory Days of the Bubble Era (1995-2007) when stock or house prices were rising rapidly and people were spending money like there was no tomorrow because they felt wealthy. Is this a good thing? Saft quotes Dave Rosenberg—
In fact, many people in the U.S. now face diminished retirements and generally straitened circumstances precisely because they mistook the rising prices of their house and Internet stocks for wealth and spent or borrowed against it.
Is the U.S. actually so desperate for economic activity that this is the best it can do? Apparently so.
“When will these guys ever learn that maybe, just maybe, these Fed policies aimed at targeting asset prices at levels above their intrinsic values is probably not in the best interests of the nation?” Dave Rosenberg, chief economist and strategist at Gluskin, Sheff wrote in a note to clients.
Ben Bernanke can not repeal the law of gravity no matter how hard he tries. Any boost he did achieve in house and stock prices would be temporary, as it was the last time around. Equities would once again revert (fall) to their natural price levels, and the latest deception (stimulus) would be played out without turning the economy around. And if Americans did spend more money for a while based on their new-found wealth, they would once again find themselves holding the debt bag after that phony wealth disappeared.
Thus the Fed's MP2 QE2 policy is insane, but from their point of view, at least they would be doing something. And as we all know, doing something is always better than doing nothing
Unfortunately for us, and for Western Industrial Civilization as a whole, the Central Bank would also doing the following—
- monetizing America's public debt
- debasing the currency
- preparing the ground for hyperinflation some years down the road
The debasement of the dollar is described at length in Randall Forsyth's Debasement Blues (Barrons, October 9, 2010)—
From the standpoint of the U.S., the prospect of a new round of Fed purchases has driven Treasury-note yields down to levels you have to squint to see: 0.34% for two years, 0.52% for three years, 1.10% for five years...
What's evident is that these monetary (and fiscal) exertions have done precious little to spur a recovery. And while Chairman Ben Bernanke and other Fed officials have said that unemployment remains unacceptably high and inflation is too low (an uncharacteristic statement for central bankers), the simple fact is that those Treasury yields mean the Fed is close to running out of basis points—just as it has for the overnight federal funds rate, which has been pegged at 0%-to-0.25% since the end of 2008 and is likely to remain there at least through 2011.
The only other recourse left has been to cheapen the dollar. That possibility was first raised by MacroMavens' Stephanie Pomboy, no stranger to this space. Thinking that outright currency debasement was the last refuge of scoundrel central bankers, I thought her suggestion was a bit radical. Just a few days later, the Bank of Japan intervened to buy ¥2 trillion of currencies to cap the surging yen, which proved again how she's ahead of the pack...
Thus far, the actions in the currency wars have been defensive ones, rather than overt acts of aggression. But JPMorgan's currency team looks for a new Plaza Accord to defuse the hostilities. While the G-20 won't formally agree to guide the currency markets, "countries will be allowed to manage a dollar decline imposed by a new easing cycle." The dollar will continue to fall until the U.S. economic cycle shows signs of picking up, it adds.
Meanwhile, Stephanie continues to think the unthinkable. With the dollar leading a race to the bottom, she expects to hear comments in polite company concerning the "crazy, heretical notion about the end of dollar hegemony," which heretofore has been confined to conversations among uber-bears. "That's why gold is rallying," she adds.
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The long-term purchasing power of the dollar (1920-2009)Since Bernanke started laying out the rationale for further easing in his speech at the Fed's annual bash in Jackson Hole, Wyo., in late August, the U.S. Dollar Index has declined roughly 7% against that basket. Over the past six weeks, gold is up more than $100 an ounce, topping $1360 as the Fed and other central banks engage in their race to debasement. During that same span, the Wilshire 5000 has gained about $1.3 trillion in value, or about 9.9%...
The end of dollar hegemony? Why not? Stranger things have happened in human history. We can clearly see that the economic "growth" paradigm, at least the way its been implemented in the United States over the last 25 years, has been a heedless, headlong rush toward a cliff's edge. Many observers think we are playing out the Final Act of this self-destructive binge. Here's what I wrote in Bombs Away on February 14, 2010—
On the other hand, this blog is not called Decline of the Empire for nothing. We document human folly, greed and predation during our Fall from grace. Historian Arnold Toynbee said that Civilizations die from suicide, not murder. That's true of the American Empire as well. And the closer you are to the end of the world as we have known it, the more foolish, rapacious behavior you get. I will never run out of stuff to write about.
The new money printing is likely to have little effect on the Real Economy where you and I live. But its longer term effects in the global financial markets is likely to speed the demise of the United States, and ultimately, all of us who live there.
Great blog. Not arguing with the thrust of the post, but is there a small error on the graph? 1971-2009 is 38 years, not the 28 years shown...
Posted by: David | 10/11/2010 at 06:24 PM