“THE MOST IGNORANT REMARKS EVER MADE BY A CENTRAL BANKER”
As usual, the latest Hussman letter is an honest and realistic perspective on what is going on today. This week’s letter is a scathing criticism of Federal Reserve policies and their blatant manipulation and counterproductive policy responses. The primary target of this week’s letter is quantitative easing. In discussing Mr. Bernanke’s Washington Post op-ed Mr. Hussman refers to the Chairman’s comments as “the most ignorant remarks ever made by a central banker”. I entirely agree and believe that these same comments will forever haunt Mr. Bernanke. Naturally, I think Mr. Hussman is right and it’s clear in my opinion that the Federal Reserve is becoming part of the problem and not the solution.
The most interesting part of the criticism is Hussman’s debunking of the “wealth effect”:
“Historically, a 1% increase in the S&P 500 has been associated with a corresponding change in GDP of 0.042% in the same year, 0.035% the next year, and has negative correlations with GDP growth thereafter (sufficient to eliminate any effect on the long-run level of GDP). Now, even if one assumes – counter to reasonable analysis – that the GDP changes are caused by the stock market changes (rather than stocks responding to the economy), the potential benefit to the economy of even a 10% market advance would be to increment GDP growth by less than half of one percent for a two year period.
Now, as of last week, the total capitalization of the U.S. stock market was at about the same as the level as nominal GDP ($14.7 trillion). So a market advance of say, 10% – again, even assuming that stock prices cause GDP – would result in $1.47 trillion of market value, and a cumulative but temporary increment to GDP that works out to $11.3 billion dollars divided over two years. Moreover, even if profits as a share of GDP were to hold at a record high of 8%, and these profits were entirely deliverable to shareholders, the resulting one-time benefit to corporate shareholders would amount to a lump sum of $904 million dollars. In effect, Ben Bernanke is arguing that investors should value a one-time payout of $904 million dollars at $1.47 trillion. Virtuous circle indeed.
So what have investors done to themselves? They’ve added an excess risk to their portfolios purely based on Fed speak and manipulation:
As a result of Bernanke’s actions, investors now own higher priced securities that can be expected to deliver commensurately lower long-term returns, leaving their lifetime “wealth” unaffected, but exposing them to enormous risk of price declines over the intermediate (2-5 year) horizon. This is not a basis on which consumers are likely to shift their spending patterns. What Bernanke doesn’t seem to absorb is that stocks are nothing but a claim on a long-term stream of cash flows that investors expect to be delivered over time. Propping up the price of stocks changes the distribution of long-term investment returns, but it doesn’t materially affect the cash flows. This reckless policy has done nothing but to promote further overvaluation of already overvalued assets. The current Shiller P/E above 22 has historically been associated with subsequent total returns in the S&P 500 of less than 5% annually, on average, over every investment horizon shorter than a decade.
Read the full letter here.
Blame all this on a space-age metaphor apparently first uttered by Larry Summers but echoed by Obama and others in the White House: “escape velocity.” They see the economy sinking into a lost decade and only a rising stock market can produce enough forward thrust to overcome disinflation. If there’s more private wealth, then there’s more spending, and then more demand, etc. In the end, it’s a simple gravity-defying imagery.
Hussman = nice writing.
Truer words have never been spoken.
I think you may all have got this the wrong way up. The government injects an extraordinary amount of money into the economy as interest on bonds it doesn’t need to issue.
So there is a very strong argument to say that the needless issuing of bonds and the interest paid on them is holding asset prices down by offering a riskless return in the market above the reserve rate. The government money spent on bond interest could probably be better spent more directly elsewhere in the economy or taxes reduced accordingly.
It’s only this crazy religious belief in funding and a misunderstanding of what the deficit is that continues the practice of the Treasury and Fed suppressing asset prices with government funds.
Nonsense.
“It’s only this crazy religious belief” – Wilson
Wrong wording there Wilson. Its not a crazy belief, its a crazy system. You see the craziness of it all, but you don’t see that it is a long running system, instead you assume its a “belief”. Its the Fed system that is the ruling system of liquidity injection. Liquidity is what drives asset prices. The Bond market is the main “HOW” used to inject the liquidity into the system by the Fed. That is why many logical individuals see it as an envidble ponzi scheme. They know the difference between a “belief” and a “system” that can’t be stopped except through a complete meltdown and reorganization or removal of the Fed system.
If the government doesn’t issue bonds it doesn’t have a tool by which it can effectively control the monetary system. No bonds, no open market operations. That doesn’t sound like a good idea.
Sure – you can make the argument that cashflows don’t change going forward.
But you could argue too that the discount rate would be lower given the willingness of the Fed to support stocks. This is the problem I am grappling with and why it is so dangerous to go short.
“Historically, a 1% increase in the S&P 500 has been associated with a corresponding change in GDP of 0.042% in the same year, 0.035% the next year, and has negative correlations with GDP growth thereafter (sufficient to eliminate any effect on the long-run level of GDP).
[...]
Now, as of last week, the total capitalization of the U.S. stock market was at about the same as the level as nominal GDP ($14.7 trillion). So a market advance of say, 10% – again, even assuming that stock prices cause GDP – would result in $1.47 trillion of market value, and a cumulative but temporary increment to GDP that works out to $11.3 billion dollars divided over two years.
Based off the ratios in Hussman’s first paragraph, I’m getting $113.19 billion for the second paragraph. That’s 10x the $11.3 billion he’s stating.
Moreover, even if profits as a share of GDP were to hold at a record high of 8%, and these profits were entirely deliverable to shareholders, the resulting one-time benefit to corporate shareholders would amount to a lump sum of $904 million dollars.
If I’m right above, would this figure need to be multiplied by 10 as well?
I’m no mathematician, but it seems that a 10% appreciation on $14.7T would be $1.47T.
Multiplying $1.47T by .00042 (.042% = .00042) comes to $617,400,000
Multiplying $1.47T by .00035 (.035% = .00035) comes to $514,500,000
The sum of the two is roundly $1,131,900,000
And 8% thereof is a mere $90,552,000.
If these numbers are right, it appears Mr. Hussman may have slipped a digit, but his point is valid … we’re talking peanuts.
I think Obozo, a liberal arts, legal-trained, financialy illiterate community organizing neo marxist socialist, does not comprehend a word of what Mr Hussman is saying.
“What is not so obvious is the extent to which the U.S. economy and financial markets are betting on the continuation of unusually low short-term interest rates and a steep yield curve. This doesn’t necessarily resolve into immediate risks, but it could profoundly affect the path that the economy and financial markets take during the next few years, by making the unwinding of debt much more abrupt… So the real question is this: why is anybody willing to hold this low interest rate paper if the borrowers issuing it are so vulnerable to default risk? That’s the secret. The borrowers don’t actually issue it directly. Instead, much of the worst credit risk in the U.S. financial system is actually swapped into instruments that end up being partially backed by the U.S. government . These are held by investors precisely because they piggyback on the good faith and credit of Uncle Sam… tolerated by the financial system because the debt has been swapped out through financial intermediaries, so investors get to hold relatively safe instruments like bank deposits and Fannie Mae securities. This mountain of debt in the U.S. financial system – tied to short-term interest rates – is ultimately and perhaps somewhat inadvertently backed by the U.S. government.”
The bubble is just beginning…Hussman was early in 2003 and he is early in 2010. Join the speculators in the gulag casino. In an environment of haphazard regulation of the market and no cost financing we are going on a wild ride. To infinity and beyond…just remember to ring the register when wall street does. Commodity/stock rally through at least end of the year…maybe into summer driving peak if winter is cold and oil perks up. Got to push the market up or down big to get those bonuses baby.
You know what is never on the agenda…regulation. Pretty sad when the man who took the squid public is calling for financial regulation…if the FED isn’t too busy manipulating the treasury yield curve, perhaps they can devote a couple hours to looking at the books of the large banks.
“The cost of not having a modern regulatory system cost the American people about $17 trillion, and only about $5 billion has been made back,” said John Corzine, former CEO of Goldman Sachs and governor of New Jersey.
Referring to Goldman Sachs as the “squid” just makes you look like an ignorant populist buffoon.
Stating that “John Corzine” is “the man that took the squid public” proves that you are an ignorant populist buffoon. John Corzine most assuredly did not take take Goldman Sachs public. In fact, Corzine was pushed out of the firm by the partnership well before the IPO in early 1999. The Chairman and CEO at the time of the IPO was Henry Paulson.
I’ll have a go at any investment bank that has an embedded hedge fund in its proprietary trading division. Morgan and Goldman both would have fallen without the bailout of AIG by the US taxpayer and the FED guaranteeing commercial paper. That they take private gains (and huge bonuses) peddling fraudulent MBS and derivatives and then when they lose its all public loses is crap.
I’m proud to be a “populist buffon” and if the big banks continue to break basic securities/contract law I will continue to boycott them and call them out for their crimes. Maybe after the rampant fraud is brought forth in the court of law you will understand how the banks managed to originate huge volumes of no-doc loans just to get bigger bonuses.
As for Corzine not being part of Goldman’s IPO…the choice was made by him in 1998, and although he lost control of the firm before the actual IPO they launched it using his plans.
“The most pressing issue now is whether the new management team can pull off Goldman’s long-delayed IPO. Paulson says it’s definite: ”We are going to go public,” and ”we will be disappointed if we don’t get a deal done in 1999.” On the face of it, the management shakeup sends a mixed message about whether Goldman will go public. Corzine is the one most closely associated with the firm’s wrenching 1998 decision to do so. As far back as 1986, he began championing the idea and ran into stiff opposition from the three men who are now running the firm. Paulson, Thornton, and Thain believed that by going public, Goldman would lose its unique partnership culture.
Goldman has gone too far down the road toward becoming a public company to turn back. Now, the triumvirate must wrestle with the same problem as Bankers Trust (BPR) and J.P. Morgan (JPM) face: Too much of their profits comes from risky proprietary trading, or trading for the house account. Says one analyst: ”As a public firm, you suffer the J.P. Morgan phenomenon”: the perception that Morgan is a trading machine. ”The guy that had a lot to do with that was Corzine.”
Investors penalize firms that depend on proprietary trading because it is so unpredictable, producing huge profits one quarter and huge losses the next. By marketing itself as an investment bank and deemphasizing its proprietary trading prowess, Goldman can sell its stock at a higher price (box). Investors are willing to pay more for the stock of companies whose earnings come from stable fees from commissions, mutual funds, and underwriting.”
Pod,
Here is some a link to Goldman’s shakeup…bunch of real friendly people.
http://www.businessweek.com/1999/99_04/b3613001.htm
Chris,
Thank you for the link. However, I don’t require the perspective of outside “reporters” as I was there at the time. The issue for GS as a private partnership was the permanence of equity capital, or lack thereof, and the need to use equity compensation more broadly in order to be competitive with peers.
And as for GS being a “bunch of nice guys”, I could not agree with you more. Goldman Sachs has a strong culture of collegiality, support and teamwork, which is one of its key competitive advantages.
lol, MJ is an oracle…
So as a former or current worker at Goldman Sachs how do you feel about:
A) A blanket ban on proprietary trading at investment firms that act as advisors/brokers to clients…
“There’s a simple, straightforward way for the GAO to construe the Dodd-Frank language, and it would reform Wall Street in a single stroke: to ban any sort of position-taking at the giant publicly owned banks. To say, simply: You are no longer allowed to make bets in the same stocks and bonds that you are selling to investors.
If that means that Goldman Sachs is no longer allowed to make markets in corporate bonds, so be it. You can be Charles Schwab, and advise investors; or you can be Citadel, and run trading positions. But if you are Citadel you will be privately owned. And if you blow up your firm, you will blow up yourself in the bargain.”
http://www.bloomberg.com/news/2010-10-27/wall-street-proprietary-trading-under-cover-commentary-by-michael-lewis.html
B) Should Wall Street Firms have stepped in to save AIG like LTCM if it was so important to their institutions?
“That Monday morning, Geithner summoned representatives from Goldman and the JPMorgan bank to Fed offices and told them to organize a private-sector consortium of major lenders to provide the emergency liquidity loans that would keep AIG afloat until things settled down. It was presumed JPMorgan would be the lead lender; Goldman, as an investment bank, could help AIG sell off assets to raise capital. Given the Fed’s blessing, other banks were expected to cooperate.”
http://www.thenation.com/article/153929/aig-bailout-scandal
Each firm knew their net exposure…
http://www.nytimes.com/2010/07/24/business/economy/24goldman.html?_r=1&hpw
C) If you were Mr. Paulson would you have put AIG in receivership, and disclose the counterparties to AIG? If you are using tax payer money to support an institution the people have a right to know its obligations.
D) Numerous stockholders in GS working in the treasury and FED. Any idea on the number of shares of GS equity held by those working at the treasury and FED?
“Lawmakers may also ask Mr. Paulson about the extensive bailout work done by Dan Jester, a Treasury adviser who was a top executive alongside Mr. Paulson at Goldman Sachs. Mr. Jester, who did not return calls seeking comment, was instrumental in the Treasury’s handling of A.I.G. until a new person was hired by the Treasury to handle the bailout. Mr. Jester ceased having any role in late October because of his stockholdings in Goldman Sachs, according to a person briefed on the matter who was not authorized to discuss it and so asked for anonymity.”
http://www.nytimes.com/2010/01/27/business/27aig.html
Graft is a still a crime last I checked.
Chris,
I’m sorry that Goldman Sachs rejected you for an Associate position when you graduated business school. I hope your career turned out fine, just the same. However, gven your seething rage at “Goldman Sachs”, I suspect it did not. Went to work for Ford?
What’s your problem POD ? Chris is 100% right in what he is saying. Based on what you are saying I would guess you are one of the parasitic scum suckers that work there, if you can call what they do “work”.
MJ
Glad to see there are other people that understand the game. My brother laughs at me when I tell him that eventually the American people are going to figure out that wall street is skimming their retirement money and stealing their tax dollars. Its obvious to anyone that has basic accounting skills that BAC and Citi are insolvent…even before the MBS put backs that they so deserve.
Wish you the best of luck and hope that one day America wakes up and takes back the country from these fraudsters.
MJ,
Your ignorance of the role of Wall Street in our system – capital formation and allocation – is staggering.
The populist buffoonery quotient on PragCap is starting to approach “Zero (IQ)Hedge” levels, which is a shame.
Guys. Play nice and don’t drag me into your fights. POD, I just searched the word “squid” on the site for you. SIX occurrences in over two years. Lets not insult the entire population just because you’re unhappy with a few people….
Agreed…unlikely either of our positions are going to change.
TPC – Sorry about being of topic. Perhaps we could have a separate post on the condition of BAC and C…
http://edgar.sec.gov/Archives/edgar/data/70858/000095012310101545/g24513e10vq.htm#112
“Mortgage-Backed Securities Litigation
The Corporation and affiliates, legacy Countrywide entities and affiliates, and legacy Merrill Lynch entities and affiliates have been named as defendants in a number of cases relating to various roles they played in MBS offerings. These cases are generally purported class action suits or actions by individual purchasers of securities. Although the allegations vary by lawsuit, these cases generally allege that the offering documents for more than $375 billion of securities issued by hundreds of securitization trusts contained material misrepresentations and omissions, including statements regarding the underwriting standards pursuant to which the underlying mortgage loans were issued, the ratings given to the tranches by rating agencies, and the appraisal standards that were used in violation of Section 11 and 12 of the Securities Act of 1933 and/or state securities laws. The cases generally allege unspecified compensatory damages and in some instances, seek rescission. The Corporation has previously disclosed some of these matters under other headings, in its 2009 Annual Report on Form 10-K and Quarterly Reports on Form 10-Q for the quarters ended March 31, 2010 and June 30, 2010, including Countrywide Mortgage-Backed Securities Litigation; IndyMac Litigation; Merrill Lynch Subprime-related Matters; and Federal Home Loan Bank of Seattle Litigation. “
Na, I like what Mr. Mually has done with Ford, but I’m actually semi-retired. I still enjoy trading, I have a thing for picking up deals when wall street does stupid things (2013 options…so cheap, like anyone can forecast that far ahead lol). Take this commodity/stock run they are engineering with 0% loans from the FED…they are going to have some fun while Bernanke tries his schemes to reflate housing. Eventually he is going to turn off the spigot cause all unsustainable things come to an end. I’ll play along with the rally for now cause fighting the FED is a loser bet, but when he does we will have another crisis and I’ll be shorting whoever made the worst bets. Maybe they’ll create some synthetic commodity contracts and sell them to multiple buyers, or they’ll be holding a bunch of mining companies in the “exploration stage”. They are greedy and the only way to guarantee profits and huge bonuses is to rig the game by taking bad assets and convincing investors that they are actually worth something. They do it during every bubble and this one will be no different, the funny part is when they get caught holding their own crap products. Maybe during the next crisis we will have the good sense to place insolvent banks in receivership where they belong. One can only hope…
Cullen,
FYI, this isn’t at all related to Hussman, but I just wanted to note that World Bank Pres. Robert Zoellick is calling for a return to some kind of gold standard: http://www.cnbc.com/id/40064723 Yikes!
Scott
Original op-ed is in FT…
http://www.ft.com/cms/s/0/eda8f512-eaae-11df-b28d-00144feab49a.html#axzz14hjGhWAx
Let’s chalk him up in the “idiot” category.
http://delong.typepad.com/sdj/2010/11/in-which-bob-zoellick-makes-his-play-for-the-stupidest-man-alive-crown.html
Idiot or stupidest man alive?
In any case the only way gold becomes a currency is if a sovereign nation makes their notes redeemable in it. Not likely, but recent policy decisions keep me from ruling it out completely.
This is a huge give up of power and makes you dependent on either mining or exporting for gold to run effective monetary policy. Policy limited by the amount of gold you can acquire…inflation/deflation determined by gold flows. Susceptible to foreign countries/speculators raiding the world gold supply…sounds like a a fun game.
According to research by Karl E. Case, John M. Quigley and Robert J. Shiller, Alan Greenspan’s much promoted wealth effect derived from equity market appreciation may be insignificant. Instead, they identify housing appreciation as a more reliable driver for consumption. If this is true, it’s unfortunate for those in the Fed hoping asset price inflation will lead to real economic growth:
We have examined the wealth effect with a cross-sectional time-series data sets that are more comprehensive than any applied to the wealth effect before and with a number of different econometric specifications.The statistical results are variable depending on econometric specification, and so any conclusion must be tentative.Nevertheless, the evidence of a stock market wealth effect is weak; the common presumption that there is strong evidence for the wealth effect is not supported in our results.However, we do find strong evidence that variations in housing market wealth have important effects upon consumption.This evidence arises consistently using panels of U.S. states and individual countries and is robust to differences in model specification. The housing market appears to be more important than the stock market in influencing consumption in developed countries.
http://www.planbeconomics.com/2010/11/07/the-wealth-effect-and-consumption/
Full paper downloadable from Plan B Economics site.
Thanks for that. Robert Shiller vs Ben Bernanke? Hmmmm.
It is the same thing to use stock market as ATM machine for spending. A few years ago to use house as ATM machine for spending. Nobody cares about the real value and real wealth creation by hard work.
I was thinking the exact same thing last night.
Only there is decent proof it does not work. Desperate times, desperate measures.
Stock market wealth is nominal wealth. It’s so misguided to think of stock market wealth as “real wealth”. Driving asset prices up above their fundamentals is simply a recipe for disaster. And unfortunately, this whole equity rally is giving people comfort in the misconception that their retirements are more secure. Just wait until the next big bubble collapses. Then maybe we’ll finally get some things fixed in this economy and stop with all the incessant Fed tinkering….
“What Bernanke doesn’t seem to absorb is that stocks are nothing but a claim on a long-term stream of cash flows”
Lets not underestimate Ben he may know all that but he does not have to tell us who is really helping.
orogorus: I think you are correct, there is no wealth effect in the stock market. Why would people who are up to their ears in debt care if the stock market is barreling ahead? They don’t own stocks, they owe money.
My understanding is that in normal times the banks make loans using mostly cash created out of thin air. So they expand the money supply every day by way more than Uncle Sam. But these days they aren’t doing loans hardly at all. The rate of loan creation vs de-leverageing is continuing to cause a net reduction in the worlds money supply. It is also my understanding that Uncle Sam is issuing treasuries to pay for the war, entitlements, and rolling over the treasury debt that is coming due. These newly issued long term treasuries that pay no interest have to be bought by somebody–right? But who wants them??? nobody! So why not the Fed? I don’t think the reason the Fed is buying this long term debt is to raise the stock prices and reduce interest paid by the money markets, although this happens. The reason is that somebody must buy these “investments”, and in reality nobody wants them.
Thank you.
are we doomed?
What else would anyone expect of the Fed, given the complete abrogation of duty by Treasury/Administration staff charged with even greater responsibility?
This is the heart of our dilemma, regardless of monetary policy. “..Unproductive fiscal policies are long-run inflationary regardless of how they are financed.”
Yet he’s right in noting that “When the Fed acts outside of the role of liquidity provision, it does more harm than good.”
When a legislature – and electorate – displays incompetence, there’s no point in trying end runs to fight city hall. An ounce of prevention is worth more than a trillion pounds of repair. It’s invariably better to write off losses rather than try to repair them.
even this insightful paragraph, below, is missing deeper points, namely because it accepts unquestioned the current premier quest for nominal currency gains over strategic real positioning;
reading between & under the lines is how all national capability is invented, i.e., real value; so what this picture paints is a view of an unraveling ecological scenery, and unraveling public purpose
“Rising home prices were further promoted by a combination of lax credit standards, perverse incentives for loan origination, a weak regulatory environment, and a Federal Reserve that sat so firmly on short-term interest rates that “INVESTORS FELT FORCED” to reach for yield by purchasing whatever form of slice-and-dice mortgage obligation the financial engineers could dream up. Rising home values provoked more debt origination, and even higher prices. What seemed like a “virtuous circle” was ultimately nothing but an overpriced speculative bubble with devastating consequences.” [emphasis mine]
That’s not the kind of rhetoric that dominated public discourse in, say, 1776, 1812, 1861, 1933, or 1941. You have to hope that unanticipated triggers will reverse this negative momentum.
Some are concluding that Control Fraud has finally reached the pinnacle of US government, and has nowhere else to go – short of the UN, which is still a step down in terms of real wealth & power. So we may, indeed, be approaching the process lifetime end of current market manipulation, and running out of purpose.
What our public needs more than all else is discovery of new national purpose. There are infinite, worthwhile, options before us, attainable only via group coordination. How do we get people to explore group options instead of hoarding nominal bookkeeping metrics? Let’s hope we don’t have to first explore, by default, some negative group options in order to execute the desired course correction. That’s a very risky approach.
TPC and others. HELP me become less confused please. It’s creating insomnia! lol
I’m obviously missing something here in the QE controversy.
Treasury issuance is simply a way to pull money out of circulation. So, the primary bond dealers “buy” the trsys and their money disappears back into the ether at the push of a button leaving trsys in their place. The FED turns around and buys the trsys back by pushing a button and crediting the primary dealers with cash……….that was there before they BOUGHT the trsys. Net sum, zero, except for the market mark ups or downs. So, Why even issue trsys in the first place if they are not funding anything?? Is it to keep up a balance sheet somewhere for appearances??
A confused neo-MMT who knows a lot more about neuroanatomy than economic anatomy!
Thanks in advance.
rhp
The Fed is changing the term structure and that’s all. By removing some of the 5 year bonds they are hoping to herd investors into other assets and borrow. But they haven’t added net new financial assets. They haven’t “printed money”.
Why do they issue 10 year bonds? Good question. I suppose its to maintain some semblance of normalcy since many other products are keyed off these rates. But they don’t HAVE to issue 10 year bonds. They stopped issuing the 30 year from 2001-2006 and not much changed. The world didn’t end and the bond market didn’t collapse. They could accomplish the necessary reserve drain by issuing a CD. In other words, they could eliminate the entire govt bond market, but the ramifications of this would be highly controversial. The govt would also have explain to the public that their tax dollars don’t fund anything and that would probably disturb a lot of people. So, instead, we get the modern day Fed which is run by senors Greenspan and Bernanke….
TPC:
Clearly the public perception of QE2 (if it is perceived at all), is one of “printing money”. Otherwise, BB would not feel compelled to issue such a statement that it is not.
What actions could the Fed or Treasury or other govt. agencies take that WOULD be clearly inflationary? Double the minimum wage?
What exactly would printing money look like, in an operational sense, at the Federal level?
Please, don’t post a stock news photo of printing money…seen enough of those already
Helicopter drops are fiscal operations. Deficit spending, tax cuts, etc. These add to the net pvt sector financial assets. Monetary policy really just shuffles these assets around or help people to leverage them up.
OK, so aren’t we already doing those things…deficit spending and tax cuts, on a pretty large scale? Pretty much has been the story since 2001, right? Comparable to WWII levels?
So, if Congress decides to extend the tax cut as is, and engages in some kind of spending reduction/austerity, and we are already in a near equilibrium on inflation (sometimes called disinflation), then deflation should follow those actions, which nearly no one wants. Right?
Also, does the Fed have the authority to do those fiscal operations (helicopter drops)? Seems like a function of Congress.
Sorry if I’m dumbing this down too much…, but from time to time it just has to be made simple, for simple minds.
They did do that. And I would argue that it helped. It’s what is necessary in a balance sheet recession.
There is elevated risk of deflation, yes. But I doubt the deficit will be cut substantially which means we muddle through hoping for a boom abroad.
The Fed can pull some shenanigans that appear fiscal. For instance, some people argue that the bailout of FNM and FRE were fiscal, but I don’t think so. Those were govt guaranteed institutions so their solvency was never at risk.
No problems! I dumb everything down so I can get through my dumb brain!
“The Federal Reserve System has added X amount of $ of securities to its assets, which it has paid for, in effect, by creating a liability on itself in the form of bank reserve balances. These reserves on the Bank’s books are matched by the same amount of the dealer’s deposits that did not exist before.
@first
true enough, but the bank’s reserves (primary dealer) were drawn down originally by the purchase of the treasuries, which were then “sold” to the FED. leaving net sum equal zero in the private sector, except for the change in terms…………at least as i understand it.
ps: TPC, thanks for the explanation. glad I’m not as far off as I was thinking i might be. seems like it is necessary for the FED and the Treasury dept to maintain a certain “fiction”, or else all hell would probably break loose b/o prevailing misconceptions…..
rhp
true enough, but the bank’s reserves (primary dealer) were drawn down originally by the purchase of the treasuries, which were then “sold” to the FED. leaving net sum equal zero in the private sector, except for the change in terms
No, in practice, the banks begin by buying bonds at a higher yield in anticipation of the auction, then flip those bonds back to the Fed at a lower yield, taking a relatively small profit from that spread. The banks that participate in the bond auction end up with more cash than what they started with.
Brad Delong’s math puts this net figure at $7 billion. http://delong.typepad.com/sdj/2010/11/the-mountain-labored-and-gave-birth-to-a-mouse.html It’s not zero, although it’s just a small fraction of the $600 billion action that is used to generate it.
Again, you have to remove the interest income from the pvt sector because they are removing int bearing assets. This will offset any gains. They are not adding new money. It’s incredibly frustrating that you keep repeating this falsehood and confusing people.
It’s incredibly frustrating that you keep repeating this falsehood and confusing people.
There is absolutely nothing false about it. The bond sellers convert their bonds into cash. Bond auctions are used to inject liquidity into the economy, as these bonds are converted into cash.
I realize that the MMT theory disputes the entire concept of money creation through open market operations, but this is the orthodox explanation of how this works. At the very least, you should note that your explanation runs contrary to the standard view.
So, you’re telling me that the pvt sector isn’t losing the interest income from the bonds they sold to the Fed? Answer that one for me.
Crickets.
He’s wrong as usual TPC.
So, you’re telling me that the pvt sector isn’t losing the interest income from the bonds they sold to the Fed? Answer that one for me.
I’ve stated repeatedly that the **timing** of cash flows matter. I don’t know why you fixate on the central bank balance sheet, when that isn’t the point.
This is how the BoE explains it for laymen: “the Bank buys assets from private sector institutions – that could be insurance companies, pension funds, banks or non-financial firms – and credits the seller’s bank account. So the seller has more money in their bank account, while their bank holds a corresponding claim
against the Bank of England (known as reserves). The end result is more money out in the wider economy.”
http://www.bankofengland.co.uk/monetarypolicy/pdf/qe-pamphlet.pdf
The Fed does the same thing, except that it limits its purchases to treasuries.
The “asset swap” argument misses the point. It’s a strawman argument — nobody who isn’t an Austrian is denying that QE and open market operations in general involve an exchange of cash for assets.
Since you like referencing the BOE’s explanation of QE1 here are some facts for you. We removed about $50B in interest payments via QE1 and replaced it with a measly $2.5B in reserve payments. Most of that paper (MBS) was high yielding stuff and we gave the banks 0.25% interest bearing reserves.
Can you rectify that 47.5B loss? I didn’t think so. You’re the one who doesn’t understand how QE works and as a result you’re the one making a straw man argument.
You’re the one who doesn’t understand how QE works
My explanation matches the standard explanation for QE. I know that you don’t like it, as it runs counter to the MMT’s reliance on deficit spending as an explanation for money creation, but that’s how any standard economic text would describe it. What the BoE wrote is just Macroecon 101.
You have a right to believe in whatever monetary theory that you want, of course, but your efforts to portray MMT as a stock theory that has widespread credibility is misleading. Most economists reject it; at the very least, frame it honestly as a heterodox position with some beliefs that are well out of the mainstream.
The onus is on you to prove me wrong. Repeatedly saying that I believe in an unorthodox view does not prove anything. You’re like the guy who keeps telling Copernicus that the sun rotates around the earth and you have no evidence to prove it except saying “well, everyone else believes it!!!”.
You keep avoiding the question. You claim QE adds cash (at least your supposedly “correct” orthodox view tells you as much), but the fact is that QE1 removed ~47.5B in cash from the private sector. How do you rectify this factual inaccuracy in your claims?
You claim QE adds cash
I’m not “claiming” it — this is Econ 101. Let’s go back to the Bank of England’s description of QE: “The end result is more money out in the wider economy.”
When a central bank lowers interest rates or engages in QE, the central bank buys up assets, such as sovereign debt. Those primary dealers, banks, etc. that sell their bonds back to the central bank see their cash balances increase. This increase in their cash position is the monetary easing that is the objective of the QE policy.
What I have described matches what the BoE is describing in the link that I provided. I obviously didn’t make it up — I’m quoting and paraphrasing a central bank and its simple description of its operations. What I have detailed here is simply the standard view of money creation, namely that open market operations are used to create and destroy money.
A key difference between mainstream economics and MMT is that the mainstream describes money being created through monetary policy (open market operations) while MMT creates it through fiscal policy (deficit spending.) MMT has a fundamental disagreement with the mainstream about how money is created.
Now, if you want to agree with the latter, that’s fine. But don’t pretend that it’s bizarre or aberrant to go with the monetary view, when that is the prevailing mainstream view. You are articulating a completely different view of money from what is typically believed by the world’s central banks and economists, so don’t be so surprised if the vast majority of those who know something about this topic isn’t on your side.
You are sidestepping the question because you know it proves you wrong. What is 2.5 minus 50? If it’s negative then you’re wrong. And we both know the answer to that.
You are sidestepping the question
Your question is off point.
Here is a simple statement of fact: When bondholders sell their bonds back to the central bank, those bondholders end up with more cash after the sale than they had before.
As the Bank of England describes quantitative easing, “The end result is more money out in the wider economy.” The bank giveth cash, and taketh away less liquid assets. The issue for QE is not the total composition of the central bank’s balance sheet, but the cash that goes to the banks.
The BOE’s comments are directly in conflict with what BB says so we can throw both comments out. Lets look at the facts. In QE1 the Fed removed 50B in int payments. They added 2.5B in IOR. How do you rectify this proof that you are wrong?
You’re making the same error KD was. You’re trying to argue that there is a monumental difference between 0.1% paper, 0.15% paper, 0.2% paper. At what point is cash not cash? All cash is a govt liability. Just like a t note that bears a 0.2% int rate. In fact, most money market funds hold short duration notes and most investors would classify this as cash. You’re getting caught up in the textbook definition of cash and its not allowing you to see the world as it truly is.
The BOE’s comments are directly in conflict with what BB says so we can throw both comments out.
This is wrong. You need to stop banging on with the “asset swap” comments, as if they are particularly meaningful or the point of contention.
I am in agreement that the Fed is swapping one asset (bonds) for another asset (cash.) You don’t need to mention that again, as nobody is arguing with you about this.
The issue here is in the type and timing of those assets. Cash paid today is a different asset from debt. That’s particularly true because the bondholders flipped their bonds for a quick profit — because they buy bonds to flip at a lower price than the Fed will later pay for them, the QE auction increases their cash balances.
That conversion of debt into cash is the easing part of quantitative easing. No central banker is going to argue with me about this. (It is debatable whether it actually accomplishes anything beyond increasing these cash reserves, but the mechanism deployed is simply a fact, and works as I have described it.)
You’re trying to argue that there is a monumental difference between 0.1% paper, 0.15% paper, 0.2% paper.
No, I am not. I am pointing out that QE converts private sector bond holdings into cash. That is simply a fact, not even a point that is arguable.
In any case, I have pointed out repeatedly that the real end game of QE2 is to move the rate curve. The change in the money supply is a means to an end, not the end in itself.
For those of us who don’t believe in MMT, we believe that open market operations create and destroy money, and those changes are achieved through the interest rate mechanism. Money supply, the interest rate and bond auctions are all part of the same thing. I realize that you and MMTer’s don’t agree with this monetary-based view of money, but the fact that you hold a very different view of what “money” is compared to the rest of us explains a lot of why these things keep devolving back to this “asset swap” mantra, when that isn’t what I am talking about.
Perhaps it would help if you would write a piece or two that contrasts MMT to other, more prevalent theory. Instead of simply claiming that everyone who disagrees with you doesn’t understand money or rehashing examples of MMT, just make a direct comparison and contrast of how MMT is similar to and different from the dominant view.
TPC: Cash is debt. This is what you don’t seem to understand.
Cash is debt. This is what you don’t seem to understand.
I understand that **you** see these as interchangeable. But the central bank does not agree with you.
Trust me, I understand that you are a devotee of MMT. But it would serve you if you could understand that there is a counterargument to your position, and if you were able to articulate that counterargument.
I understand your position — since you don’t believe that lenders need to increase their cash positions in order to make new loans, QE accomplishes nothing because converting bonds into cash won’t increase their propensity to lend.
However, it would appear that the Fed didn’t agree with you as of QE1 (there was clearly a goal to backstop the banks). Fast forward to today, and it seems equally clear that QE2 is about moving the interest rate curve, not about the money that is necessarily created in the process of lowering the interest rate. The increase in the money supply that accompanies this current round of easing is just a means to an end; it isn’t inflationary because there isn’t enough of it to matter.
TPC: Actually the central bank does agree with me. When they issue reserves they put them in a checking account at the Fed. When they issue t bonds they put them in a savings account. Are you telling me that there is a difference between cash in a savings account and cash in a checking account? Or are they both “cash”? You’re making a rather inconsequential argument trying to explain that 0.1% paper is vastly different from 0.2% paper
Actually the central bank does agree with me.
Obviously not, otherwise they wouldn’t be engaging in quantitative easing. At this point, they’re attempting to allay inflation fears, but Bernanke obviously supports a QE policy.
When they issue reserves they put them in a checking account at the Fed. When they issue t bonds they put them in a savings account.
One last time — I am NOT discussing the Fed balance sheet, but about the change in the asset composition of the bond seller’s account. You’ll need to argue the Fed balance sheet with somebody else, because that isn’t what I’m talking about.
TPC – we’ll never agree. Good day.
TPC
If I sell you my bonds and you print money in your basement to pay for them. I obviously lose the interest but since I will replace the bonds I sold to you with a “new issue” of the same bonds you have allowed new fund via me to the borrower with having going to the public. No ?
Sorry (with out having to go to the public.)
Where did the money come from that you bought the bonds with? You already had it. So you sell the bonds to the Fed and they give you reserves. It’s a clean swap.
“So you sell the bonds to the Fed and they give you reserves.”
Can I not use this reserve TPC ?
Who buys the “new” treasuries? and what does the treasury does with that money ?
Managing federal finances and Collecting and paying all bills of the U.S.
So, where does that go ?
Screw Hussman. I back BB’s moves 100% here. Everyone want to have a debate, then let’s have it, shall we.
Prescient,
I’ve called a spade a spade. This is a bank bailout. He’s preparing to buy MBS in case the housing market turns south. But that’s not what the market thinks. The market thinks he is printing up a bunch of fresh new bills and dropping them out of choppers. That’s wrong.
Is it bad that he’s preparing to bailout the banks? Not necessarily. You and I agree there. 100%.
TPC, hey buddy, absolutely. But I want to drill down even further here.
I think there is even more genius in BB’s moves here, it’s all about capital flows man, capital flows.
Perfectly clear…Its’ all smoke and mirrors. ANyone ever stop and think that the price of goods typicall stay the same, unless there is a strong run on demand fo course. What fluctuates is the value of the money thus the apparent change in value of goods, or stocks that produce the manufacturing of goods.
Example
The normative GDP (that rate of production that corresponds to manufacturing or production rates as the economy grows via mormal market expansion) was constant to the price of gold, actually we should call it the value of gold. In 1913 the corresponding GDP Index linked to gold and futured to 1998 was only $300.00 difference. The factor of about 17.4 was used and the value of gold at 1913 prices and that of 1998. Information concerning the price of good and GDP was collected from the Federal Reserve Bulletin, June 1998.
The real kicker is that the tax system has reaped enormus profits. The 1913 standard deduction was $3000.00. By 1998, to account for the devaluation of the cuurency, the standard deduction would have had to be $52,200.00 according to the GDP index or $52,500.00 according to the price of gold. You see they allow us to play the game while they steal from us through the devaluation of the money. Even if $10.00 changes hands privatly the fed is already making a profit on the circulation of the imaginary $10.00.
Does anyone else see Bernanke as the village idiot? I just sit and wonder: Does this guy come up with his nation-busting ideas all by himself, or does he buy them from Obama for a few pennies each? He can’t spend too much on them, because he only comes up with bad ideas every time he says something; or maybe he’s buying these bad ideas with his devalued dollars?
Sorry for the spelling a bit distracted I am afraid.
PS
You will see an up surge in the activity of the Fed as the so called Tea Party continues to make inroads politically. The writing is on the wall and those who control the money know they have a short time before all hell breaks loose when the peopole find out what has been going on.
“The Devil has come down in great fury fore he knoweth that he hath but a short time”.
The present Federal Reserve System is a flagrant case of the Government’s conferring a special privilege upon bankers. The Government hands to the banks its credit, at virtually no cost to the banks, to be loaned out by the bankers for their own private profit. Still worse, however, is the fact that it gives the bankers practically complete control of the amount of money that shall be in circulation. Not one dollar of these Federal Reserve notes gets into circulation without being borrowed into circulation and without someone paying interest to some bank to keep it circulating. Our present money system is a debt money system. Before a dollar can circulate, a debt must be created. Such a system assumes that you can borrow yourself out of debt.
Willis A. Overholser, A short review and analysis of the history of money in the United States, with an introduction to the current money problem (1936), p. 56
No, I don’t think BB is an idiot and I’M OVERTLY DEFENDING HIS POLICIES. ANYONE WANNA HAVE A DEBATE OR WHAT???
EVERYONE ON HERE is whining and bitching about this or that.
Well I’m telling you BB is on the right track and you don’t even want to engage?? Come on you intellectual light weights, let’s get our QE on!!!!!!
I THINK BB IS VERY RIGHT IN WHAT HE’S DOING!!!!!!!!
WHO WANTS TO DEBATE IT????
TPC, every other comment I’m posting here seems to disappear? Just an fyi.
Prescient11,
How about this, as the Chairman of the Fed (an honest Fed), I would go before Congress in closed door meeting and lay out a plan of creative deconstruction of the present path for the banks. Congress authorized a creation of x amount of regional banks with a x trillion dollars backing of the Treasury bonds. These regional buys up the bad debts from the banks with haircuts that would wipe out the shareholders and haircuts the bondholders. As the Fed I would step in to back the depository of the banks and allow smaller regional banks to buy up the assets. Reconstitute the salvageable banks with Fed loans. In the meantime, I would suggest congress give a one time tax holiday for corporate taxes to come back and close all the stupid deferments currently in place. The banks would have been reduced in size and stature while allowing real capitals to find productive and innovative outlets. But since the dishonest FED mandate is to save the current system with all its warts, then we are screwed.
A cheapened dollar will not bring back manufacturing or jobs. The advent of automation has essentially create such high productivity gains that there is realistically not enough jobs for everyone to do. China and many other export or manufacturing hubs continue to do cost analysis of adding manual labor vs automation. So far the manual labor benefit is still winning but at some point the gains turn negative.
I am voting for you Mike.
That is the honest way,the common sense way, the logical way but the Fed and the media’s are trying to rationale the biggest fraud in history.
Mike,
You got it exactly right…the right way to fix this mess is to recognize the fraud in the MBS and its derivatives. Mark the losses, put the insolvent banks in receivership, and then extend reserves to the regionals that didn’t do this crap to buy the assets out of the government receivership. Similar plan to get rid of Fannie and Freddie. Equity holders of banks going into receivership are wiped out and the bond holders get back what comes back from the auctions of the assets to the solvent banks minus the government handling fee.
Bernanke knows exactly what he is doing and his plan is to extend, pretend, and pray for growth. TPC is right that QE 2 is largely ineffective unless he buys the MBS (at much higher than market price). He can manufacture the perfect treasury yield curve with the current plan, but you still need a debtor that can pay the loan back and a creditor with a sound enough balance sheet to make the loan to stabilize M3 and create growth. I’m still trying to figure out what happens if foreigners miss read QE 2 and send their dollars back into the US out of fear of devaluation. Probably just blows up the commodity/stock bubble even bigger.
Printing money ? Not much to debate its all very clear the mechanic is public.
http://www.rayservers.com/images/ModernMoneyMechanics.pdf