Ben Bernanke

Ben Bernanke (Photo by U.S. Federal Reserve)

The publication, earlier this week, of the Federal Reserve’s Federal Open Market Committee minutes of January 29-30 seemed to have a similar effect on equity markets as a call from room service to a Las Vegas hotel suite, informing the partying high-rollers that the hotel might be running out of Cristal Champagne.  Around the world, stocks sold off, and so did gold.

Here is the sentence that caused such consternation:

“However, many participants also expressed some concerns about potential costs and risks arising from further asset purchases (the Fed’s open-ended, $85 billion-a-month debt monetization program called ‘quantitative easing’, DS). Several participants discussed the possible complications that additional purchases could cause for the eventual withdrawal of policy accommodation, a few mentioned the prospect of inflationary risks, and some noted that further asset purchases could foster market behaviour that could undermine financial stability.”

Here is how one may freely translate it: “Guys, let’s face it: All this money printing is not without costs and risks. Three problems present themselves: 1) The bigger our balance sheet gets (currently, $3trillion and counting), the more difficult it will be to ever load off some of these assets in the future. When we start liquidating, markets will panic. We might end up having absolutely no maneuvering space whatsoever. 2) All this money printing will one day feed into higher headline inflation that no statistical gimmickry will manage to hide. Then some folks may expect us to tighten policy, which we won’t be able to do because of 1). 3) We are persistently manipulating quite a few major asset markets here. Against this backdrop, market participants are not able to price risk properly. We are encouraging financial risk taking and the type of behaviour that has led to the financial crisis in the first place.”

All these points are, of course, valid and excellent reasons for stopping ‘quantitative easing’ right away. Readers of this site will not be surprised that I would advocate the immediate end to ‘quantitative easing’ and any other central bank measures to artificially ‘stimulate’ the economy. In fact, the whole idea that a bunch of bureaucrats in Washington scans lots of data plus some anecdotal ‘evidence’ every month (with the help of 200 or so economists) and then ‘sets’ interest rates, astutely manipulates bank refunding rates and cleverly guides various market prices so that the overall economy comes out creating more new jobs while the debasement of money unfolds at the officially sanctioned because allegedly harmless pace of 2 percent, must appear entirely preposterous to any student of capitalism. There should be no monetary policy in a free market just as there should be no policy of setting food prices, or wage rates, or of centrally adjusting the number of hours in a day.

But the question here is not what I would like to happen but what is most likely to happen. There is no doubt that we should see an end to ‘quantitative easing’ but will we see it anytime soon? Has the Fed finally – after creating $1.9 trillion in new ‘reserves’ since Lehman went bust – seen the light? Do they finally get some sense?

Maybe, but I still doubt it. Of course, we cannot know but my present guess is that they won’t stop quantitative easing any time soon; they may pause or slow things down for a while but a meaningful change in monetary policy looks unlikely to me.

The boxed-in central banker

I think that in financial markets and in the press the degrees of freedom that central bank officials enjoy are vastly overestimated. I consider central bankers to be captives of three overwhelming forces:

1) Their own belief system which still holds that they are the last line of defence between dark and inexplicable economic forces and the helpless public, and that therefore, whenever the data or the markets go down, it is their duty to ride to the rescue. Thus, when the withdrawal of the Cristal, whether actual or only prospective, dampens the party mood, the Fed will soon feel obliged, by its own inner logic and without any motivation from outside influences, to open another bottle. Just wait until the present debate about an end to QE leads to weaker markets and until, in the absence of the diversion from rallying equity markets, the almost consistently uninspiring ‘fundamental data’ becomes the focus of attention again, and we will witness another shift in Fed language, again back to ‘stimulus’. We had these little twists and turns a couple of times without any major change in trend. Anybody remember the talk of ‘exit strategies’ in the spring of 2011?

Of course, like most state officials, central bank bureaucrats are largely preoccupied with the problems of their own making. It is precisely the Fed’s frequent rescue operations that have created the dislocations (excessive leverage, asset bubbles) which cause instability and repeated crises in the first place. However, there are no signs anywhere that, intellectually, the Fed is willing and able to break out of this policy loop.

2) The size of the dislocations, which are – as I just explained – largely central-bank-made and now, after years and years of Greenspan puts and Bernanke bailouts and zero-interest rates, still sizable in my view, maybe as large as ever. The Wall Street Journal reported that total borrowing by financial institutions is down by about $3 trillion from its all-time high in 2008. That’s the widely heralded ‘deleveraging’. But does that mean that the current level of about $13.8 trillion is a new equilibrium? The Fed’s balance sheet expanded by almost $2 trillion over the same period, and super-easy monetary policy has provided a powerful disincentive for banks to shrink meaningfully. What is truly sustainable or not, will only be discernible once the Fed stops its manipulations altogether and lets the market price things freely. My guess is that we would still have to go through a period of deleveraging and probably of headline deflation. This would be a necessary correction for a still unbalanced economy addicted to cheap credit but nobody is willing to take this medicine.

3) Politics. Falling stocks, shrinking 401K-plans, and shaky banks don’t make for a happy electorate. Additionally, the state is increasingly dependent on low borrowing costs and central bank purchases of its debt. The chances of the US government repairing its own balance sheet look slim to non-existent so dependence on ultra-low funding rates and the Fed as lender of last resort (and every resort) will likely continue.

Look at Japan

When it comes to any of the major trends in global central banking of the past 25 years, Japan has consistently been leading the pack. It had 1 percent policy rates for years in the mid 1990s when such rates were still deemed exceedingly low in countries like the US, and when the global community still looked upon them in disbelief – and growing annoyance at the small pay-off in terms of real growth. Japan was the first to have zero policy rates and the first to conduct ‘quantitative easing’, albeit on an altogether smaller scale – thus far at least – than some of the Western central banks managed since 2008. Now the country seems to point the way towards the next phase in the evolution of modern central banking: the open and unapologetic politicization of the central bank and the demotion of the head central banker to PR man.

Any pretence of the ‘independence’ of central bankers has been unceremoniously dumped in Japan. Ministers take part in central bank meetings and give joint statements with central bank governors afterwards. New Prime Minister Shinzo Abe has made it very clear what he wants the central bank to do (print more money faster, devalue the Yen, create inflation) and to that end he is looking for a new central bank governor. Of course, only accredited ‘doves’ need apply. A few days ago, Mr. Abe also spelled out what skill-set he is really looking for: good marketing skills. Salesmanship.

“Since we all have our national interests, sometimes, there will be criticism about the monetary policy we are pursuing. The person needs to be able to counter such criticism using logic.”

The course of monetary policy is pretty much fixed. Now it is all about marketing.

In the meantime, the debasement of paper money continues.

 
 

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22 Responses to Bubble trouble: Is there an end to endless quantitative easing?

  1. Jim C says:

    If (when?) Japan suffers a currency crisis, I wonder if this will give the other nations’ central bankers pause for thought.

    I suspect that whoever is in charge of the Fed at that time will argue the USD’s position as world reserve currency will shield it from following the yen into the sinkhole.

    This time is *always* different…

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  3. David Henderson says:

    One gold holding company, GoldMoney, offers electronic transaction services in units of grams Au (or at least they used to).

    Another commodity is the kw-Hour. In this modern digital age, might that not be a better commodity?

    It might even spur more efficient and imaginative energy conversion mechanisms.

    • Greg Strebel says:

      Certainly that would be better than fiat money in most respects. The main issue is probably that individuals cannot efficiently store power and would consequently have to rely on contracts. This introduces the counterparty risk factor, not necessarily a show stopper.
      The value of a kilowatt-hour will vary somewhat too. There is already time-of-day pricing in many jurisdictions. The power is more valuable during peak demand hours than low demand periods. This issue may be somewhat more intractable, since ‘money’ should not only be a store of value, but also a unit of account. It is one thing for the unit of account feature to vary somewhat over time when the time scale is long, but quite a problem when it fluctuates from hour to hour.
      It may be argued that precious metals prices also fluctuate from hour to hour, but perhaps that is more a reflection of the value of the fiat currencies being used as a measure than of the PMs themselves.

  4. Chris Goodwin says:

    Second paragraph after the initial quotation; line nine – you have:-

    ” …to any student of capitalism.” PLEASE do not do this, you are only spreading Marxist claptrap by ever using the word “capitalism”. There is, nor ever has been, a “capitalist” society/economy – it is all a figment of Marx’s imagination. There is/was nothing of that ilk to study.The only man I can find who might be described as “a capitalist” was the late Howard Hughes – and that is bit iffy, because he seems to have been dead for that many years before the death certificate was signed. The (not admitted to be) deceased was only seen by a very discreet inner circle of minders, who kept his financial empire running in order to live nicely off the opportunities for ripping off his enormous wealth, acting through power of attourney. They eventually “let him die” in Mexico, where by law all cadavers have to be buried, or, as in his case, cremated within 24 hours. So Uncle Sam never got a look at the stiff: nor a chance to detect that the corpus delecti had been kept in a deep freeze for some considerable time.

    Such a “man” was run by his owners as the hero of a novel is manipulated by the author – it is not evidence of how any man behaves, merely a view
    of how the creator would like the world to believe he might have behaved.
    Cue the trope of the rich man, indifferent to the world + the recluse, who avoids human fellowship, + the health freak, afraid of contagion, who escapes to a remote desert hideaway, where only his loyal comrades follow their chief – no, he doesn’t give interviews, no he will not speak to you, leave him in peace. Guard dogs. Armed security. Piss off.

    No real live human being has otherwise displayed the characteristics of Marx’s “capitalist.” If capitalism existed, it would fail. No one wants it. Nobody could study it, it is a chimaera. Try something like ” a student/supporter of free markets” -problem solved. Don’t encourage the Nazi/Fascist/Communist/Socialist/”Liberal”/New Dealing/New Era scum.

  5. Chris Goodwin says:

    My errors (!)
    Line 2. for “ever” read “even” (second word) and for “There is,nor ever has been..” read “There is not, nor ever has been..”

    Line 4, at the end, for ” and that is bit ” read “and that is a bit”

  6. Andy says:

    Hi Detlev,
    Just heard the news and there is talk of a possible negative rate of interest. “This ship is made of iron sir” Clearly, the iceberg is in sight!

    Thank you again for refreshing insight into absolute realty.

  7. Dr James Thompson says:

    All central banks are in the position beautifully described by Martin Shubik in “The Dollar Auction: a paradox in non-cooperative behaviour and escalation” http://www.math.toronto.edu/mpugh/Teaching/Sci199_03/dollar_auction_1.pdf
    In this auction it appears to all participants that they can get a dollar for 5 cents. However, if they enter the auction they must agree to pay the highest bid they have made, whether they win the auction or not. It looks great to begin with, because the dollar looks very cheap. However, once committed, the participants find they are trapped, and try to minimize their inevitable losses by bidding even higher. I used to conduct such auctions with students, and found it easy to drive them higher than a dollar, though I never collected any money from them. Send the paper to Helicopter Ben?

  8. Robert Tartell says:

    When Ben Bernanke testified before Congress that he had a special tool- his helicopter- to deal with recession, he never said the helicopter would be dropping the interest-free money directly on the banks which own the Fed (ditto for the other CB’ in what is absurdly called “Quantitative Easing”- they still get to charge 20%+ to cardholders). Somehow Detlev thinks they are the victims(“I consider central bankers to be captives.”

  9. RUSS SMITH says:

    Hi!, Patrons Of Detlev Schlicher Et Al:
    Long ago in OUR Halls Of Congress, Senior J. P. Morgan explained everything in very short & simple terms but nobody even today hears his simplicity regards economics, when he stated to OUR Congressment those many decades ago:”Gentlemen, only gold is money and all else is merely credit!” That’s it people. So straight forward and simple but the world populace resigned itself to amnesia and forgot his immortal words, in their cumulative addiction to paper money. About paper money Daniel Webster told US decades ago: “Of all the contrivances ever designed for cheating the laboring classes of mankind, none has been more successful than that which deludes them with issues of irredeemable paper money!” These warnins are ignored and so we accept the plight we have gotten ourselves into otherwise using the credit created by endless issues of paper, I Owe You Nothing, unbacked paper money. It will be up to the American people to forge a New Economic Recovery, if they ever see the lights shed upon them by these two great thinkers of their time. When?

    RUSS SMITH, CA. (One Of Our Broke Fiat Money States)
    resmth@wcisp.com

  10. Pat says:

    Hey dumbass, stocks are RISING, 401K’s are RISING !

    • byrne buffwood says:

      ‘dumbass?’ really? how eloquent…. so the moneys being chased back into the stock market? after inflating real estate prices for nearly 10 years and milking that for all its worth, its time to sheer the sheep again. did you really think your shitbox was worth a million dollars? whos the dumbass?

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  12. Dr James Thompson says:

    Just posted a little item, much influenced by Detlev’s posts, called “Are central bankers intelligent?”

    http://drjamesthompson.blogspot.co.uk/

  13. David says:

    While my intuition doesn’t agree with Pat’s ‘dumbass’ comment, his message is relevant until an expert armed with data and statistics offers clear possible scenarios of how the ‘end-of-the-world’ will come about. The credit crisis was triggered when people stopped paying their mortgages that were wrapped up into over-priced and opaque securities. Surely some clever economists can offer a super-set of likely scenarios for the next crisis that is backed up by some science?

    Debts that governments can no longer pay? When? Increases in Taxes. When? Leading to the realisation that projected future income on Equities don’t justify the price? When? Increases in interest rates to attract deserting investors in government debt? When? At least such a book might make the author a bit of money…

    • Peter says:

      Crack-up boom (i.e. fiat paper returns to it’s intrinsic value – i.e. zero), or deflationary depression. All the liquidity has done is buy time and confidence to (maybe?) protect the banks when the SHTF.

      There’s no need for a book, it’s already well documented if you want to do some reading/research. Credit booms at the crazy levels of leverage we have seen over the run-up from 2000-2007, lead to credit induced busts (deflation). The private banks/central banks don’t want this (i.e. deflation – as it means they lose), so it seems as tho Crack-Up boom it is (i.e. inflate the debt’s away). Whether we do get a crack-up boom or just a repeat of the 70-80s (i.e. very high interest rates), only time will tell.

      I like Marc Faber’s advice, hedge for both scenarios. The person who wins in the this kind of environment is the one who loses the least!

  14. David says:

    Go on, hazard a guess, what triggers the switch from current euphoria to sudden despair? It’s too easy to to keep saying printing money can’t solve the world’s problems. Perhaps the crisis was nothing more than a temporary lack of credit. Now that that’s solved, perhaps at its most fundamental the world’s just as prosperous as it was before the temporary inability of a few people to pay their mortgages. It’s nothing more than ranting until someone’s willing to stick their neck out. Who’s going to wake up and realise they’re holding equity or debt that’s worth materially less than they paid? What is suddenly going to cause a sudden switch to hyper-inflation such that people dump debt and interest rates go through the roof? When are the Chinese going to decide that there are better things to do than holding US debt whose value is constantly waning due to inflation? I think you can detect my incredulity that the current historic highs being experienced by the Dow and FTSE can last, but why is there such a lack of insight by people who make a living analysing these things as to why they believe we’re just in the middle of another bout of irrational exuberance??

  15. Peter says:

    David I don’t know what “triggers” the switch.
    If you abolish all the debts and derivatives and others nonsense associated with this crisis you are left with what you suggest – The world is “just as prosperous as it was before”, that is the farms are still there, the factories are still where they were, all the productive land is where it was before etc. etc. I believe Doug Casey has talked about this.

    “Who’s going to wake up and realise they’re holding equity or debt that’s worth materially less than they paid? What is suddenly going to cause a sudden switch to hyper-inflation such that people dump debt and interest rates go through the roof?”
    I think that is the crux of the issue circa 2007-2008, hence the money printing and dumping of garbage assets on the central banks balance sheet. I don’t know what will cause the sudden switch, there is much interplay from a large number of variables.

    “When are the Chinese going to decide that there are better things to do than holding US debt whose value is constantly waning due to inflation?”
    They have already realized this. They are keeping their US denominated reserves constant (in value, but decreasing as a %’age of overall reserves) or actually reducing them in face value. They are buying lots of land in Africa, lots of raw materials, precious metals etc. They are aware of what is happening (as far as the available data is suggesting).

    “I think you can detect my incredulity that the current historic highs being experienced by the Dow and FTSE can last, but why is there such a lack of insight by people who make a living analysing these things as to why they believe we’re just in the middle of another bout of irrational exuberance??”
    I cannot answer this question either. Is it because of poor education? Is it because most people these days have a memory recall of no more than two days? Is it because they have a vested interest in pumping up the markets (so they can sell @ a better price)? I don’t know. The “high’s” of the DOW and FTSE are just there for MOPE (in my opinion). The DOW has not hit an inflation adjusted all-time-high yet (but it probably will). If you ask me, the fundamentals are so bad for this irrational exuberance (that Mr.Greenspan spoke of), then, there is only one way for the markets, and it is down. When this happens I don’t know. My guess, sometime in the next few months to say Aug-Sept. But remember, it is a guess :) I accept it could be wrong, and money printing will probably make it wrong.

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