Re: The Definitive Fed Statement Thread

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  • Thu, Mar 19, 2009 - 01:45am

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    Re: The Definitive Fed Statement Thread

During Bubble II, the Fed was adding about $50 billion a year to
permanent reserves. They did this by purchasing Treasurys from primary
dealers — never directly from the Treasury. This was mainly for the
sake of appearances, and also to enrich the primary dealers. But once
the Bank of England openly admitted that they were going to ‘print
money,’ the Fed took this as a long-awaited opportunity to come out of
the closet and publicly confess to their depraved inflationist
proclivities. No more dainty sniffing of glue in the toilet; now we’re gonna mainline it
with an intravenous drip on network TV. Hit me, Bennie.

Of course, the Fed does not actually have $1.5 trillion
of buying power with which to expand its balance sheet. In fact, its
net worth is about nil. But thanks to a ‘legal tender’ law, it can buy
$1.5 trillion of assets with overdrawn checks, and those overdrawn
checks will circulate as acceptable currency. If yours and my overdrawn
checks were declared ‘legal tender,’ then we could go on a similar
spree. Without that legal shield, of course, we would be arrested for
check fraud and jailed.

But since the organized crime cartel
running this country has decided to finance itself with large-scale
counterfeiting, our mission is to forecast the next moves in this mafia
chess game. Like most folks handicapped with a PhD Econ, Ben analyzes
his counterfeiting in static terms — I counterfeit $300 billion of
cash; buy $300 billion of Treasurys; rates drop 50 basis points — free money magic. What
Ben misses is that the economy is a dynamic system. Having diluted the
currency’s purchasing power by say 10 percent, in a year or two prices
will rise 10 percent. Then interest rates will be hiked to 12 percent
so that lenders can earn a 2 percent real return. At that point, most
people are worse off than before, because inflation is raging and
interest rates are in double digits. But Usgov is better off, because
it has devalued its debt by 10 percent. And inflation makes income and
excise tax receipts go up. Sweet.

The slightly more sophisticated
PhD Econs say that all this stimulus will be withdrawn before
double-digit inflation arrives. To them, I say review the minutes of
the last meeting. If today is analogous to the 1929-1933 depression,
that day down the road when the Fed tries to shrink its balance sheet
back to ‘normalcy’ is analogous to 1937. In 1937, as inflation started
to rise and stocks were bubbling, the Fed tried to throttle back from
its near-zero interest rates. It doubled the discount rate from 1 to 2
percent, and also doubled reserve requirements. Industrial production
plunged, unemployment soared, and stocks crashed 50 percent in 13
months.

Ben Bernanke faces the same dilemma a couple of
years down the road, if he doesn’t get lynched before then. Either let
inflation run away … or shrink the Fed’s balance sheet, and watch the
economy crash and burn in the ditch. Just as we’ve been saying all
along, there is no good answer. There is no optimum policy. There
is no ‘easy way out.’ THERE ARE ONLY DIFFERENT FLAVORS OF UGLY TO
CHOOSE FROM.

The moral of this story is that going on an epic
crime spree to rescue the economy is not an intelligent choice. Robin Hood Ben
aims to steal from the creditors and currency holders, and shower the
proceeds on his cronies. Overall, as any third-grader unencumbered by an
advanced edumacation can work out, this redistribution of purchasing
power will afford no net benefit to the economy. We have been
impoverished by previous malinvestment. Inflation not only can’t fix
the problem of malinvestment — it will assuredly make it worse by
causing more malinvestment in the future in ‘inflation hedges.’ Real
estate, anyone? Collectibles?

After graduating Robert McNamara, George W. Bush
and Ben Bernanke, I really think Harvard should be closed down and
converted into a pig farm. Then it would at least be adding rather than
subtracting social value.