MORE PROOF THAT OUR LEADERS ARE CLUELESS….
We continue to see widespread ignorance of the inner workings of our monetary system from high ranking officials. The latest showing of continuing flawed thinking comes to us courtesy of Richard Fisher who is the President of the Dallas Fed. In a recent speech Mr. Fisher makes an extremely odd comment. In discussing the implementation of QE Mr. Fisher says what I have long said – that QE is pushing on a string:
“What I envision from the current vantage point is an anemic recovery, but not one that slips into reverse gear. Thus, barring an unforeseen shock, I have concerns about the efficacy of further expanding the Fed’s balance sheet until our political authorities better align fiscal and regulatory initiatives with the needs of job creators. Otherwise, further quantitative easing might be pushing on a string.”
So far so good, but then in the next sentence it becomes clear that Mr. Fisher doesn’t exactly understand the monetary system he helps oversee:
“In the worst case, it could flood the engine of the economy with gas that might later ignite inflation.“
These comments baffle me. It is a continuation of the thinking that has guided Bernanke, the Fed, the Treasury and the entire government since this crisis began. What Mr. Fisher is basically implying is that the addition of reserves creates some risk of future inflation. He clearly doesn’t understand that QE is simply an asset swap that does not alter private sector net financial assets. Despite vast evidence showing that QE does little to boost bank lending Mr. Fisher appears to think it’s somehow different this time. Further, he clearly adheres to the textbook money multiplier which has been proven thoroughly wrong in the last few years (see here) and has even been shown to be wrong by some of Mr. Fisher’s co-workers at the Fed. Mr. Fisher thinks that adding more apples to the shelves will help the shopkeeper sell more apples. Of course, the Fed hasn’t failed, they just haven’t tried hard enough….
Comments such as these prove that our most trusted leaders do not understand the most intricate workings of the monetary system we live in. It’s no wonder that we continue to fight these problems with misguided policies such as QE. It would all be humorous if it wasn’t hurting so many millions of people.
TPC: it’s great that you have conviction on the matter of QE not being inflationary, but Fisher’s second comment you highlighted does make sense.
Have you noticed the rise in commodities since the FED announcement in September? Not only Gold but other metals are at decades high (e.g. Silver). Oil is creeping back up as a result of the dollar’s decline. Back in 2008 when oil prices increased significantly, within one quarter the CPI index had risen despite the economy entering into recession. End products are made of commodities, and oil impacts shipping costs. When these go up, despite the lag of a few months, costs for corporations increase. The latter end up passing it along. This month, Fedex announced price increases. Coffee businesses also made announcements on price increases, as beans are hitting record high. What is your logic in thinking that this trend will not continue or induce inflation? From these trends, it seems it’s already happening and the mechanics may be driven by the *anticipation of inflation* actually causing it to happen.
Side note: The FED claims 2 mandates of price stability and full employment; if one needs to take precedence, which one will they likely pick? Isn’t it convenient as well, that inflation would help Mr. Bernanke artificially but effectively reduce debt levels by bubbling up the GDP? Looks like a 2-stage process, with stage 2 a few months from now being “great victory folks, we defeated deflation, now we need to raise rates because we overshot”.
Interested in your further thoughts.
It’s not a matter of conviction. It’s a matter of understanding. More reserves do not = inflation. Banks lend money when creditworthy customers walk thru the doors, not when the Fed loads them with reserves.
If we see cost push inflation that is sustained then it’s a clear sign of a healing economy. You really think the US consumer could sustain $100+ oil with 10% unemployment? There’s no chance. Aggregate demand is way too weak.
Gold and silver do not represent inflation in my opinion. They reflect a Dick Fisher like misunderstanding of the way things work. People are buying gold because they’re scared of the Euro collapsing and the US govt spending us into becoming Zimbabwe. It’s nonsense. Outside of commodities there are no signs of inflation and thus far there are no signs that companies can pass these costs along….
Thanks TPC. I agree with your reasoning, yet we are watching companies starting to pass increases along. http://www.marketwatch.com/story/green-mountain-coffee-roasters-inc-announces-price-increase-2010-09-07 – to just paste one link, 10% price hike. Search Fedex, similar announcement. Oil up nearly $10 to $81 this month alone.
I hope you’re right – especially if the FED does go ahead with QE2.
Well, price hikes and higher sales are two different things. I just don’t see how the economy can sustain much higher prices given the labor weakness. I hope we get 4% inflation in the next few years. It will mean I have been too bearish and that the economy is strong.
I disagree; the QE does not have to be loaned in order to be inflationary. It can be used for speculation in commodities that are considered a safe haven in an environment where every country is trying to devalue their currency. The reason you say there is no sign of inflation outside of commodities is that you are using flawed data. The government manipulates inflation data in the following way.
“Hedonic deprecator.”
If the computers available this year are twice as fast, then the government counts that as 50% deflation. You are getting twice the hedonism for the same dollar, so only half the price is reported in the price indexes.
“Creative substitution,”
With food, the government adjustments are a little more imaginative. They assume if the price of beef goes up, you will eat less beef and more chicken. If chicken goes up, you will choose pork. And if pork goes up, you will eat more tofu. They assume that when the price of something goes up, some people creatively substitute something less expensive.
Alan Greenspan who in 1966 wrote, “In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value.”
Banks can already buy anything they want that is allowable by regulators and assuming they have the risk-adjusted capital to do it with or without prior reserve balances. That’s what you are missing here. QE does nothing since the Fed always supplies sufficient reserve balances to the banking system so that it’s target rate is achieved, with or without QE. That’s what it means to set an interest rate target.
I wonder if you can clarify something. I read a couple of years ago that the Fed substantially increased the money supply during the Great Depression with virtually no effect on inflation. I don’t remember where I read this, but in essence, the vast majority of economists and people in general seem to think that merely increasing the money supply or swapping assets or whatever is going to magically cure the deflationary forces.
Can you clarify your question?
I think my question is: Did the Fed do lots of QE, printing, expansion of the money supply, or whatever, during the Great Depression? Maybe they did or didn’t, but I thought they did (with little or no effect of course). It would nice to see a comparison of then and now if that’s possible because the general consensus (maybe just Bernanke’s claim?) is that Fed really didn’t act forcefully in the 1930s in terms of expanding the money supply to fight deflation. It sounds like it’s a useless tool when it comes to fighting deflation just like your example of adding more apples for sale won’t sell more. Perhaps it didn’t work back then like it probably won’t work now. Just wondering if QE or expansion of the money supply was tried in the past (to fight deflation) and what the result was.
I think the GD is a poor precedent to rely on. The US economy was dramatically different back then. I think the best example of a balance sheet recession is Japan and the evidence is crustal clear that QE and other such central bank operations do not improve lending and the real economy. Fiscal stimulus is the only thing that helps and that really just papers over the underlying problems that were being ignored. http://pragcap.com/quantitative-easing-the-greatest-monetary-non-event
I’m not sure about money multiplier as the main issue.
For some reason there seems to be a belief that if you sell bonds the currency is stocked for the duration of that bond (even though you can take it to a bank and borrow against it) and if you hold cash then it will always flow (even those there are these things called savings accounts which stock cash quite effectively).
I’ve not seen any theoretical underpinning, or econometric evidence, for the ‘magic of bonds’ vs a straightforward central bank deposit account that pays the base rate on reserves.
What possible reason is there for an increase in economic flows just by swapping bonds for cash?
What possible reason is there for an increase in economic flows just by swapping bonds for cash? Neil Wilson
What if the bonds are likely to default or the insurance premium against that possibility is high? Hasn’t the Fed been buying crappy assets from the banks? Or what if the Fed is overpaying for the bonds to recapitalize the banks? Or what if the Fed is trying to preclude credit defaults by buying up the debt?
But the chief reason, I suspect, is to transfer crappy assets from the banks to the Fed who can hold them indefinitely until the economy recovers or forever if need be.
I wouldn’t be surprised if there were some ‘pent up’ price increases. That is, some companies now raising their prices to recover costs, where they could not do that in 2008 and 2009. You have to remember, lots of companies slashed their prices radically to get any sales at all. Relatively small increases now probably don’t even get prices back to “normal”– whatever that means these days!
“Outside of commodities there are no signs of inflation and thus far there are no signs that companies can pass these costs along….”
You are right, Copper up 360% in 10 Years, Crude up 300% in 10 years, Coffee up 125% in 10 years, Cotton up 233% in 10 years, Sugar up 150% in 10 years, Corn up 150% in 10 years, Soy beans up 175% in 10 years, Wheat up 275% in 10 years, Lean Hogs up 160% in 10 years, Live Cattle approaching a high, Pork Bellies up 133% in 10 years,
Oh yes, housing is down, computers are down, and video games are down
My god man, your intelligence is getting in the way of your common sense. Open your eyes. Your argument about the money multiplier is spot on, but it is irrelevent. If money is chasing assets because cash sucks and population demographics world wide are trending up then the money multiplier discussion doesnt really mean anything. The everyday prices of stuff are and are trending up.
regardless of what your argument tells you.
You are really just starting to sound like the fed but on the other side of the argument. “My theories cant possible be wrong regardless of what the real world is telling me.”
Mr. Karl Denninger thinks we depend on the rest of the world to fund our deficit:
Here Come The Fearmongers (Luskin)
Denninger is playing it both ways by being a deflationist and believing in default. Obviously, any reader of this site know what’s ridiculous. He’s just hedging himself so he can say he was right no matter what. If we default like Argentina he says we were right and if we continue to see very low inflation he can also say he was right. I stopped reading him when I realized he was a fraud.
I haven’t made up my mind about Mr. Denninger. He is a work in progress, I believe. He defends fractional reserve lending which is a negative,imo, but has spoken about debt-free money from the Treasury, which is a positive.
Also, I have learned a lot from his site.
It will take a while for a consensus to form so we should forebear each other till it does, imo.
It’s totally ridiculous that he would call anyone else a fear mongerer. KD writes in bold font about how the USA is going to default. That is the ultimate in fear mongering and it shows an incredible ignorance about the system.
KD writes in bold font about how the USA is going to default. Captain America
Actually, that would not be so bad, imo. It would prove to the US population that the US government need not borrow what it can create for free, money. Besides, it is obscene that some people earn interest collected by force from the American people and their children (taxes). It would serve the rentiers right if they got stiffed.
Some more baffling comments from another Fed head:
[balance sheet policy] adds to household wealth by keeping asset prices higher than they otherwise would be.
Managing the Federal Reserve’s Balance Sheet
October 4, 2010
Brian P. Sack, Executive Vice President
Federal Reserve Bank of New York
I tend to think the deflation/inflation argument can be deceiving. Why not talk more in the realm of which assets classes will see price increases and which ones will not? Also will people be able to afford the any of the asset classes in the previous question?
Easily we could have dropping prices in things such as “computers, dvds, games…” as mentioned above and then roaring prices in soft/hard commodities as people try to flee their respective currencies.
Is this scenario not one in which we have inflation in commodities, and deflation in discretionary goods. I simply do not believe this argument can be one sided.
What is one sided and obvious to me is that the type of inflation that the Fed will attempt to initiate with QE will not help the REAL economy. It will not start some magical cycle of job employment (ie Japan).
But keep in mind just because Japan is in its deflationary lost decades does not mean everything has gotten cheaper, on the contrary people simply cannot afford them because the REAL economy did not benefit like the BOJ anticipated it would from QE.
edit: They will push on the string, but it will not reflate the bubble they desire.
Well, I am still amazed about the discussions of the Fed’s powers, aims and abilities. It should be obvious from their actions since 2007 and earlier on around 1997 on.
First the Fed aims only to a) keep and expand its powers and creditbility; and b) serve the banks’ interests (preserve balance sheets, enable profitable rent extraction, provide needed reserves after they have expanded credit etc.)
QE currently serves two purposes: a) initially it enabled the swap of toxic paper for no credit risk paper (e.g. for banks and China); that is why Ben called it credit easing; it was a direct intervention in an asset class and if they want to hyperinflate this would be the channel – step in direct dealings with market participants in the place of banks; b) by lowering long term yields, it pushes up the prices of stocks, which has various effects – lower nominal cost of capital (good if it would be used for something productive and not gamblings), illusion of prosperity and good spirits by consumers, wealth illusion (wealth effect), good business environment for banks profits and balance sheets, trickle down economics etc.
The problem with b) is that it is all nominal, not real. Independent of nominal cost of capital, real cost of capital may be even higher after QE and it depends a lot on the real demand and supply (real savings) of capital. Currently low nominal yields are more a sign of economic weakness and deflationay forces than a sign of an impending capital spending boom. If there is a boom it will be in speculation, as there is little demand for real capital spending from the private sector, as final demand is weak and overcapacity is rampant. Final demand is weak because it was artificially higher due to credit expansion above reasonable debt/income levels.
Investor X