Posts Tagged ‘Ben Bernanke’
Sunday, June 10th, 2012
Submitted by James Miller of the Ludwig von Mises Institute of Canada
Mark Carney Kicks The Can
Bank of Canada Governor Mark Carney takes a lot of cues from his U.S. equivalent and fellow central banker Ben Bernanke. Both took interest rates to anorexic levels in light of the financial crisis in 2008. Both used their positions of power as stewards of the people’s money to bail out the big banks. Both take credit for the gains of their respective stock markets and for guiding their economies through the global recession. Both are forever on a quest to rid of the world of the boogeyman of deflation.
And both are sewing the seeds of their own destruction by keeping interest rates artificially low and ultimately driving unsustainable investment that must eventually be liquidated. All around the world, the boom bust cycle continues to occur due to central banks attempting to induce economic growth with money printing. China’s economy is continuing to come apart as manufacturing output and real estate prices plummet. These sectors were bid up by double digit increases per annum in the country’s money supply over the past decade. Since inflationary growth, by definition, can’t go on forever, as its continuance results in what Ludwig von Mises called the “crack-up boom” and destruction of the currency, the chickens of the People’s Bank of China’s reckless monetary policy are finally coming home to roost. The PBOC has responded to the downturn by recently cutting interest rates for the first time since 2008 in what will likely be a vain effort to reinflate the bubble.
Over in Europe, the year over year change in the broad money supply has dropped dramatically since 2010. This provided the spark for the sovereign debt crisis which shows no sign of slowing down unless Angela Merkel and Germany concede to further inflationary measures by the European Central Bank. Just like her support for the big banks and the austerity measures that ensure idiotic bankers don’t take too much of a loss on their holdings of euro government bonds, Merkel will likely give in to money printing in the end as she has already endorsed the push for a political union.
And now in Canada, Mark Carney announced a few days ago the Bank of Canada will keep its benchmark interest rate steady at 1%. This announcement comes despite his previous warnings over the enormous increase in Canadian private debt. But of course the run up in debt couldn’t have occurred if interest rates were determined by market factors only. Had supply and demand been allowed to function freely, interest rates would have risen as a check on the swell in debt accumulation. Carney won’t admit this though. Like all central bankers, he has made a habit of boasting the positive effects of his low interest rates policies while avoiding blame for the negative consequences.
He is a bartender who gleefully takes the drunk’s cash while replying with “who, me?” when said drunk drinks himself to death.
What makes the promise of continually low interest rates especially worrisome is not only does it tell the market to keep accumulating debt, but it is also an attempt to keep what some are calling a nation-wide housing bubble from deflating. Over the past decade, Canadian home prices have shot up at a far steeper pace compared to the decades that preceded it. In recent years, the acceleration in home prices has been fueled by the Bank of Canada’s historically low overnight lending rate which went from 3% before the financial crisis to .25% in 2009 and now rests steadily at 1%. The BoC has already acknowledged that its interest rate policies directly affect mortgage rates. Many Canadian media publications and investment newsletters are pointing out this trend and warning of a potential collapse. The BBC even did a report on it. There is nothing potential about a sharp downturn in home prices however; it will happen. It’s only a question of when.
With China and Europe leading the pack, the world economy is beginning to take a turn for the worse. The orgy of money printing which took place over the past few years has slowed down significantly; even in the U.S. Central bankers are standing at a precipice in which they must decide if they will forge ahead and prime the monetary pump to paper over the various malinvestments caused by their previous interventions or actually allow for a contraction and the market to adjust to a new path of sustainable growth. If history is any indication, the latter is not a considerable option as it would be devastating to the banking sector which is reliant on piggybacking credit expansion off of an uninterrupted flow of newly printed monies.
Carney’s decision to keep interest rates suppressed is yet another instance of a central banker unable to face reality. The malinvestments will continue to accumulate and will have to be liquidated at another date. What Carney has done to mitigate the looming debt and housing bubble is effectively kick the can down the road. He has revealed through his actions the undeniable truth which holds for all central bankers: that they have no other card to play but the printing press. As legendary investor Marc Faber has noted,
“I do not believe that the central banks around the world will ever, and I repeat ever, reduce their balance sheets. They’ve gone the path of money printing… And once you choose that path, you’re in it and you have to print more money.”
The Austrian theory of the trade cycle developed by Mises a century ago tells us that credit expansion is bound to end in depression. To quote Herbert Stein’s Law, the business cycle theory essentially boils down to “if something cannot go on forever, it will stop.” The debt fueled boom in Canada is a house of cards. No matter how much money printing or interest rate manipulation Carney attempts, the collapse in inevitable. His record, along with Ben Bernanke’s, will eventually be one of dismal failure.
Tags: Angela Merkel, Bank Of Canada, Bank Of Canada Governor, Bank Of China, Ben Bernanke, Bust Cycle, Central Banks, China, Crack Up, Debt Crisis, Digit Increases, Global Recession, Ludwig Von Mises, Ludwig Von Mises Institute, Mark Carney, Money Printing, Money Supply, Pboc, Sovereign Debt, Vain Effort, Von Mises Institute
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Sunday, June 10th, 2012
Gold Market Radar (June 11, 2012)
For the week, spot gold closed at $1,593.45 down $30.65 per ounce, or 1.89 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, beat bullion with a slight loss of 0.59 percent. The U.S. Trade-Weighted Dollar Index fell 0.54 percent for the week.
- The U.S. Mint reported that sales of American Eagle gold bullion coins in May rose 158 percent over the total number purchased in April. Sales of American Eagle silver bullion coins rose 89 percent in the same period. However, sales in May 2012 were down from levels attained in May 2011 for both gold and silver bullion coins. On a positive note, recent SEC filings showed George Soros has been buying gold again.
- While the gold stocks were the star performers in the prior week, silver stocks on average turned in positive gains despite a flat silver price. Lately mining stocks have been outperforming the bullion prices.
- Gold maintained its recent gains most of the week until Fed Chairman Ben Bernanke spoke before Congress on Thursday and did not affirm that the Fed was compelled to immediately start QE3, particularly in response to recent weak job numbers. Short-term traders immediately started shorting gold. Speculative interests have declined significantly over the past year with the Comex speculative open interest recently at 13.6 million ounces net long, down from 28 million ounces, so there is plenty of room for this number to grow, once the Fed or Congress is forced to scream “Uncle!”
- From recent Fed statements, some of the Federal Open Market Committee (FOMC) members appear to have warmed up to another round of QE, as some economic data has been downright disturbing as of late. When Bernanke refrained from outlining steps that the central bank may take to bolster the economy amid risk from Europe’s debt crisis, gold futures tumbled the most in two months. Instead the Fed indicated it is going to assess more data before acting.
- Barrick Gold’s Board of Directors announced this week that it had replaced Aaron Regent, President and Chief Executive Officer, with Chief Financial Officer Jamie Sokalky. Barrick’s vision is to be the world’s best gold company by finding, acquiring, developing and producing quality reserves in a safe, profitable, and socially responsible manner. Analysts worry that the company may lower guidance.
- A Court of Appeals ruling orders the U.S. Forest Service to consult with wildlife agencies prior to granting Notices of Intent to weekend hobbyists using suction dredges to mine for gold in the Coho Salmon critical habitat in northern California. This could be bad news for all U.S. small miners and explorations working on Forest Service lands with critical wildlife habitat. This decision sets a major precedent across the western states and may render the Forest Service impotent to meaningfully address low impact mining without deferring to other agencies such as the EPA.
- Morgan Stanley conducted a survey of 2,019 urban and rural gold buyers across 16 Indian cities and eight Indian states. The survey report notes that Indians own 20,000 tons of gold worth $1 trillion. Respondents from several households said they expect gold prices to rise by 8 percent in 2012. The survey notes that gold is not the first asset that Indian households liquidate during bad times; it is equities. Gold remains an important asset class for investment, having outperformed most other asset classes over the past five years.
- In a recent address to the Committee for Monetary Research and Education, Bob Hoye noted policymakers are now getting margin calls on their massive experiment in government intrusion and it is likely coming to an end. In studying history, Bob sees a pattern in which the state spends, borrows, inflates and raises taxes until all of the wealth is consumed. Consequent hardship becomes widespread and forces folks to tighten their belts, who in turn, force local and federal governments to tighten theirs. Policymakers have an economic interest in maintaining the bubble but ultimately running the money printing presses cannot keep a mania going.
- Bob points out that typically in the year a bubble maxed out, gold’s real price set a significant low and then increased for some twenty years thereafter. If Congress does not reach agreement on several important tax and budget policy issues before the end of this year, the impending fiscal cliff could be a big hit to GDP growth and could be sufficient enough to push the economy into recession in 2013.
- Bernanke’s remarks pointed that action is required by Congress to set the right policies to lead the country forward. Congress cannot wait to see if a third quantitative easing sets the ship right. It seems the major central bankers have agreed to a common script, pointing to the failings of fiscal policymakers (i.e., politicians). Mario Draghi of the ECB commented, “Some of these problems in the Euro area have nothing to do with monetary policy. That is what we have to be aware of and I do not think it would be right for monetary policy to compensate for other institutions’ lack of action.” Central bankers are trying to put pressure on their political leaders to address the root causes of the crisis which are beyond the scope of monetary policy.
- With this being an election year, we may be at an impasse with little room to compromise where brinkmanship and stand your ground may be more important than doing the right thing. Gold prices have been highly sensitive to what monetary policymakers have done for much of the past year and with low visibility towards a resolution, it could be a trader’s market for the next couple of quarters with the potential for some large price moves if the stresses become acute.
- If the Fed wants to do something, it really has to be June 19-20 because the window will start to close once the election campaign moves into high gear.
Tags: American Eagle Gold, American Eagle Gold Bullion Coins, April Sales, Ben Bernanke, Bullion Prices, Federal Open Market Committee, George Soros, Gold Bullion Coins, Gold Futures, Gold Market, Gold Miners, gold stocks, India, Market Radar, Nyse Arca, Open Market Committee, Silver Bullion Coins, Silver Price, Silver Stocks, Spot Gold, U S Mint
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Friday, June 8th, 2012
Occasionally I get an email from a reader that makes me pause and think. This is one of those times.
Reader Janet Dight writes …
Ben BernankeMonopoly Official Rules “The bank never goes broke. If the bank runs out of money, the banker may issue as much as may be needed by writing on any ordinary paper.”
Monopoly Money vs. Bernanke Money
So what’s the difference between “Monopoly Money” and “Bernanke Money”?
The difference is theory vs. practice.
In Monopoly, there is no difference between theory and practice. The rules are the rules and they will be honored and enforced by the players in the game. Money is printed and handed out without any regard as to whether it might be paid back. There is no such thing as excess reserves. Players are always willing to put money to use. If players don’t put money to use, they will be bled to death by other players.
In the Bernanke’s world, the Fed can print as much or as little as it wants. What the Fed does print is a loan. That money must be paid back. Collateral (even if speculative) is required and discounts are applied. In Bernanke’s world, money is parked as excess reserves at the Fed if banks do not find good credit risks.
At times, it seems there is little difference between “Monopoly Money” and “Bernanke Money”. It all depends on the willingness of banks to lend and consumers and businesses to borrow.
However, even when it seems there is little difference, there is a major difference between a bank giving money to players spend and loans that must be paid back.
Constraints are Key
Flashback November 23, 2010: Austrian economist Robert Murphy predicts “high inflation” and and writes a post Has Mish Deflated the “Inflationistas”?
My response which in retrospect has clearly carried the day was Failure to Consider Constraints – My Response to “Has Mish Deflated the Inflationistas?”
I invite you to read my detailed response to someone who was clearly wrong but here is the key snip.
Monetary Printing vs. Debt Deflation
There is $35 trillion in credit on the balance sheets of banks, little of it marked to market. Yet, in spite of the fact that Money Multiplier Theory is totally bogus, supposedly printing $600 Billion to is going to cause serious inflation.
The odds sure don’t look very good to me.
Practical Constraint Recap
- Ability of consumers/corporations to take on more debt
- Willingness of consumers/corporations to take on more debt
- Willingness of banks/credit companies to extend more credit
- Ability of banks/credit companies to extend more credit
- Unwillingness of the federal reserve to print themselves out of power
- Actions of other Central Banks
- Actions of Congress
- Global wage arbitrage
- Fed cannot create jobs
- Fed cannot give money away
- Fed is beholden to banks
In theory the Fed can cause inflation rather easily. In practice the Fed has to deal with many practical constraints.
Theory and Practice
Murphy claims “Bernanke has the power to raise prices if he so chooses”. Can he? With whose help? At cost constraints Bernanke can ignore?
In theory, the Fed can cause massive inflation at will. In practice, they can’t. As Yogi Berra once quipped “In theory there is no difference between theory and practice. In practice, there is.”
You can lead a horse to money, you can’t make him eat it. That’s the very important difference. It’s a question of attitudes.
The Fed can certainly encourage inflation by offering money at seemingly attractive rates, but it cannot force the issue.
Right now, neither consumers nor businesses want the risk. They are too loaded up with debt already, no matter how attractive the Fed wants debt to appear. It’s like trying to give a kid one piece of cake too many. At some point, extra frosting makes the cake look less attractive, not more. At that point the kid will not take another bite.
That is the point we are at now. The Fed is hoping Congress will eat more cake. It’s up to Congress, not the Fed, and I doubt Congress want to eat as much cake as the Fed needs.
Bernanke’s Deflation Prevention Scorecard
In case no one is keeping track, Bernanke has now fired every bullet from his 2002 “helicopter drop” speech Deflation: Making Sure “It” Doesn’t Happen Here.
Here is Bernanke’s roadmap, and a “point-by-point” list from that speech.
1. Reduce nominal interest rate to zero. Check. That didn’t work…
2. Increase the number of dollars in circulation, or credibly threaten to do so. Check. That didn’t work…
3. Expand the scale of asset purchases or, possibly, expand the menu of assets it buys. Check & check. That didn’t work…
4. Make low-interest-rate loans to banks. Check. That didn’t work…
5. Cooperate with fiscal authorities to inject more money. Check. That didn’t work…
6. Lower rates further out along the Treasury term structure. Check. That didn’t work…
7. Commit to holding the overnight rate at zero for some specified period. Check. That didn’t work…
8. Begin announcing explicit ceilings for yields on longer-maturity Treasury debt (bonds maturing within the next two years); enforce interest-rate ceilings by committing to make unlimited purchases of securities at prices consistent with the targeted yields. Check, and check. That didn’t work…
9. If that proves insufficient, cap yields of Treasury securities at still longer maturities, say three to six years. Check (they’re buying out to 7 years right now.) That didn’t work…
10. Use its existing authority to operate in the markets for agency debt. Check (in fact, they “own” the agency debt market!) That didn’t work…
11. Influence yields on privately issued securities. (Note: the Fed used to be restricted in doing that, but not anymore.) Check. That didn’t work…
12. Offer fixed-term loans to banks at low or zero interest, with a wide range of private assets deemed eligible as collateral (…Well, I’m still waiting for them to accept bellybutton lint & Beanie Babies, but I’m sure my patience will be rewarded. Besides their “mark-to-maturity” offers will be more than enticing!) Anyway… Check. That didn’t work…
13. Buy foreign government debt (and although Ben didn’t specifically mention it, let’s not forget those dollar swaps with foreign nations.) Check. That didn’t work…
I wrote about Bernanke’s Deflation Prevention Scorecard in April 2009.
Now, Bernanke is squealing like a stuck pig, begging Congress and China to help him produce price inflation in the US while still chastising Congress about a “fiscal cliff”.
For details on the upcoming fiscal cliff please see Key Words of the Day: “Nothing”, “Fiscal Cliff”, “Later”; Bernanke Speech Template; U.S. Fiscal Cliff and What to Do About It
Regarding points 8 and 9 above: the Fed did purchase treasuries and agencies, but admittedly without an explicit ceiling.
Question of Timeframe
The point of this post is not to lay into Robert Murphy or any other misguided Austrian economists. I had forgotten about the above debate and found it searching my blog for “constraints“.
Also bear in mind that I happen to agree with the Austrian economists on most points of view except timeframe.
Their timeframe is way off because …
- They view inflation as an exercise in printing, completely ignoring the role of credit
- They ignore the changing attitudes towards lending by banks
- They ignore demographics and the changing attitudes of aging boomers headed towards retirement
- They ignore constraints on the Fed and constraints on banks
- They ignore the destruction of credit on the balance sheets of consumers and its effects on prices
Record Low Treasury Yields a Sign of What?
If massive inflation was coming 10-year treasury rates would not be yielding a record low 1.60% and consumers would certainly not be deleveraging!
Might massive inflation be coming down the road?
Certainly, but it will take a change in attitude by consumers and banks or massively reckless policies by Congress.
Interestingly, Congressional policies are indeed “massively reckless” just not reckless enough yet. The emphasis is on “yet”. I will not be a deflationista forever, but I remain one for now.
I remain extremely amused by countless emails from people who tell me about how wrong I am going to be.
They all miss my ability and willingness to change my mind! At some point I am going to change my tune. History suggests I will be far too early rather than late. Time will tell.
For now (and as I have been saying for as long as I have been blogging), hyperinflation or even “big inflation” is nonsense.
Constraints and Attitudes are Key
For now, attitudes, deleveraging, demographics, and the destruction of the value of credit on the balance sheets of banks absolutely and without a doubt overwhelm Bernanke’s ability to do anything meaningful about it.
Tags: Austrian Economist, Banks, Ben Bernanke, China, Clinical Psychologist, Collateral, Constraints, Email Reader, Excess Reserves, Flashback, Game Money, Giving Money, inflation, Monopoly, Monopoly Money, Monopoly Rules, Regard, Retrospect, Theory And Practice, Willingness, World Money
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Friday, June 8th, 2012
One of the popular theories on the internets (sic) is that Bernanke wants to goose the market to help get Obama re-elected since he wants to keep his job. That due to the comments continuously heard during the GOP primaries about how every candidate wanted to replace Bernanke. There is a piece in the WSJ overnight by Fed mole Jon Hilsenrath and while it is more dovish (by a degree) than his comments just 24 hours ago on CNBC (maybes someone at the Fed yelled at him), which has a very interesting blurb on this topic:
Mindful of his own legacy and the Fed’s independence, Chairman Ben Bernanke seems unlikely to allow the political calendar to sway his decisions. He appears especially immune from politics now, with just 18 months left in his term as chairman and little indication that he wants another.
Now if the U.S. is at a weak moment economically at the end of Bernanke’s term, and Obama is re-elected maybe Bernanke will be asked to carry on, but unlike a Treasury Secretary which might stay on an extra year while an economy is in a weak spot, once Ben commits he commits for many years. So I found this paragraph very interesting in light of the commentary about Bernanke wanting to retain his job. It would seen doubtful a President Romeny would come in and remove someone who at that time would only have 12 months left in his Fed chairman role. Especially if that someone did not want a new term.
That said, if Romney wins it seems to kill the chances for the heir apparent Janet Yellen if indeed Ben wants out. Yellen makes Bernanke look like a hawk. Anyhow, thought I’d pass it along as it was news to me.
p.s. The last angle of course is someone who has no aspirations past 18 months certainly carries a lot more freedom in his/her actions than someone who does!
Tags: Aspirations, Ben Bernanke, Blurb, Cnbc, Fed Chairman, Gop, Gop Primaries, Hawk, Heir, Janet Yellen, Legacy, Mole, Nbsp, Paragraph, Political Calendar, Romeny, Treasury Secretary, Weak Spot, Wsj
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Sunday, April 29th, 2012
Forget Competing Theories … What Do the Facts Say about Quantitative Easing?
Paul Krugman says that QE, expansive monetary policy and inflation help the little guy (the 99%) and hurt the big banks (the 1%).
Of course, followers of the Austrian school of economics dispute this argument – and say that it is only the big boys who benefit from easy money.
As hedge fund manager Mark Spitznagel argues in the Wall Street Journal, in an article entitled “How the Fed Favors The 1%”:
The relentless expansion of credit by the Fed creates artificial disparities based on political privilege and economic power. [We have repeatedly pointed out that Fed policy increases inequality.]David Hume, the 18th-century Scottish philosopher, pointed out that when money is inserted into the economy (from a government printing press or, as in Hume’s time, the importation of gold and silver), it is not distributed evenly but “confined to the coffers of a few persons, who immediately seek to employ it to advantage.”
In the 20th century, the economists of the Austrian school built upon this fact as their central monetary tenet. Ludwig von Mises and his students demonstrated how an increase in money supply is beneficial to those who get it first and is detrimental to those who get it last. Monetary inflation is a process, not a static effect. To think of it only in terms of aggregate price levels (which is all Fed Chairman Ben Bernanke seems capable of) is to ignore this pernicious process and the imbalance and economic dislocation that it creates.
As Mises protégé Murray Rothbard explained, monetary inflation is akin to counterfeiting, which necessitates that some benefit and others don’t. After all, if everyone counterfeited in proportion to their wealth, there would be no real economic benefit to anyone. [Remember, even Keynes himself - and Ben Bernanake - said that inflation is a stealth tax.] Similarly, the expansion of credit is uneven in the economy, which results in wealth redistribution. To borrow a visual from another Mises student, Friedrich von Hayek, the Fed’s money creation does not flow evenly like water into a tank, but rather oozes like honey into a saucer, dolloping one area first and only then very slowly dribbling to the rest.
The Fed doesn’t expand the money supply by uniformly dropping cash from helicopters over the hapless masses. Rather, it directs capital transfers to the largest banks (whether by overpaying them for their financial assets or by lending to them on the cheap), minimizes their borrowing costs, and lowers their reserve requirements. All of these actions result in immediate handouts to the financial elite first, with the hope that they will subsequently unleash this fresh capital onto the unsuspecting markets, raising demand and prices wherever they do.”
The Fed is transferring immense wealth from the middle class to the most affluent, from the least privileged to the most privileged. This coercive redistribution has been a far more egregious source of disparity than the president’s presumption of tax unfairness ….
Before we start down the path of arguing about the merits of redistributing wealth to benefit the many, why not first stop redistributing it to the most privileged?”
Two economists, Seth B. Carpenter and Selva Demiralp, recently posted a discussion paper on the Federal Reserve Board’s website, titled “Money, Reserves, and the Transmission of Monetary Policy: Does the Money Multiplier Exist?” [Here's the link.]
[The study states:] “In the absence of a multiplier, open market operations, which simply change reserve balances, do not directly affect lending behavior at the aggregate level. Put differently, if the quantity of reserves is relevant for the transmission of monetary policy, a different mechanism must be found. The argument against the textbook money multiplier is not new. For example, Bernanke and Blinder (1988) and Kashyap and Stein (1995) note that the bank lending channel is not operative if banks have access to external sources of funding. The appendix illustrates these relationships with a simple model. This paper provides institutional and empirical evidence that the money multiplier and the associated narrow bank lending channel are not relevant for analyzing the United States.”
Did you catch that? Bernanke knew back in 1988 that quantitative easing doesn’t work. Yet, in recent years, he has been one of the biggest proponents of the notion that if all else fails to revive economic growth and avert deflation, QE will work.
Indeed, Fed policy itself has killed the money multiplier by paying interest on excess reserves. And a large percentage of the bailout money went to foreign banks (and see this). And so did most of money from the second round of quantitative easing.
Forget Theory … What Do the Facts Show?
But let’s forget ivory the tower theories of either neo-Keynesians like Krugman or Austrians … and look at the evidence.
Similarly, former Secretary of Labor Robert Reich points out that quantitative easing won’t help the economy, but will simply fuel a new round of mergers and acquisitions:
A debate is being played out in the Fed about whether it should return to so-called “quantitative easing” — buying more mortgage-backed securities, Treasury bills, and other bonds — in order to lower the cost of capital still further.
Tags: 18th Century Scottish Philosopher, Aggregate Price, Austrian School Of Economics, Ben Bernanke, David Hume, Economic Benefit, Economic Dislocation, Fed Chairman, Fed Policy, Government Printing Press, Hedge Fund Manager, Ludwig Von Mises, Monetary Inflation, Money Supply, Murray Rothbard, Paul Krugman, Relentless Expansion, Spitznagel, Stealth Tax, Wall Street Journal
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Tuesday, April 10th, 2012
Several recent developments could have prompted the Fed’s seemingly sudden interest in longer-term inflationary issues. The recent report on rising labor costs could be one. According to the Labor Department, hourly output per worker slowed in fourth quarter 2012, to less than a 1.0% annualized rate of advance, even as compensation gains accelerated to about a 4% annual rate. The resulting 3%-plus rise in the labor cost of a unit of output may not in itself raise fundamental inflation fears, but it could be taken as an early harbinger nonetheless.
More fundamentally, the Fed also has received the signals that it long ago indicated would trigger a reappraisal of its policy. As far back as late 2009, Bernanke indicated that the Fed would reconsider its extremely easy monetary stance when it saw a substantive improvement in the jobs market and an increase in bank lending. Both have now occurred. Payrolls have picked up, growing on average at close to 250,000 a month of late—a far from robust picture, but much improved over a year ago. Meanwhile, bank lending to businesses has also picked up along the lines sought by the Fed. In aggregate, commercial and industrial loans have grown at an annual rate of more than 12% during the last six to nine months.
Whatever the proximate cause of the Fed’s new tone, Bernanke’s sterilized QE plan, however, raises questions. According to his description, the Fed would create new liquidity to buy long bonds (mostly Treasury issues and mortgages), but then would sterilize any inflationary impact by borrowing the liquidity back short term at the low rates in what are called “reverse repurchase agreements.” In one respect, this plan looks like a variation of the Fed’s “Operation Twist,” in which it sold short-term paper from its portfolio in order to buy long bonds. In other respects, this scheme looks a little like a shell game. In order to sterilize the funds over time, the Fed would have to renew the repurchase agreements (“repros”) continually. Any slacking by the Fed would allow liquidity in the system to rise immediately. More fundamentally still, the Fed, to keep the short-term rates low for its repros, would have to provide ample liquidity to short-term money markets, raising questions of whether a net increase in liquidity would not otherwise take place anyway.
Still, for all the seriousness of such questions, this recent subtle change in the Fed’s tone does offer encouragement of a different sort. Certainly, it suggests that the underlying economic and financial conditions have improved enough to allow the Fed, for the first time in a while, to consider longer-term matters. Previously, the Fed was so focused on emergency needs that such distant inflationary implications, though mentioned, were treated as little more than an academic exercise. With the economy on life support, so to speak, as it seemed to be in 2009, 2010, and in the middle of 2011, the Fed might even have worried that any reference to distant concerns would make the public fear a loss of essential monetary support. That policymakers now are ready to discuss such matters, even if action would wait for a future date, speaks to a conviction that perhaps the worst of the emergency has passed.
The new tone should also reassure investors that the Fed is aware of these long-term dangers and so, presumably, is also ready to deal with them when and if the time comes. Those who have worried about the ultimate inflationary implications of all the monetary ease should find comfort in such an acknowledgement. Even if the sterilized QE technique seems inadequate, it implies that the Fed stands ready to take other steps should the need arise. The overall picture may not assuage all concerns. It seldom does. But, generally, the change in tone helps, whatever the questions about the chairman’s latest, novel policy scheme.
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Tags: Ben Bernanke, Encouragement, Fed Chairman, Federal Reserve, Fourth Quarter, Gears, Good Reason, Harbinger, Industrial Loans, Inflation Fears, Labor Department, Lord Abbett, Milton Ezrati, Monetary Stance, New Approach, Qe, Recent Developments, Skepticism, Subtle Change, Sudden Interest
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Wednesday, March 28th, 2012
by Axel Merk, Merk Funds
In his new lecture series, Federal Reserve (Fed) Chairman Ben Bernanke is going out of his way to discuss the “problems with the gold standard.” To a central banker, the gold standard may be considered “competition,” as their power would likely be greatly diminished if the U.S. were on a gold standard. The Fed, Bernanke argues, is the answer to the problems of the gold standard. We respectfully disagree. We disagree because the Fed ought to look at a different problem.
Bernanke lists price stability and financial stability as key objectives of the Fed. Focusing on the latter one first, the Fed was established to reduce the risk of financial panics. Bernanke points out:
“A financial panic is possible in any situation where longer-term, illiquid assets are financed by short-term, liquid liabilities; and in which short-term lenders or depositors may lose confidence in the institution(s) they are financing or become worried that others may lose confidence.”
Bernanke goes on to blame the gold standard for the panics. While he is certainly not alone in his view – indeed, his very lecture to students at George Washington University is promoting that view to a new generation of economists -, we beg to differ.
Banks – by definition – have a maturity mismatch, making long-term loans, taking short-term deposits. As such, banks are prone to financial panics as described by Bernanke. To mitigate the risk of financial panics, central banks can do what the Fed is doing, namely to be a lender of last resort. Alternatively, central banks can focus on the core issue, the structural “problem of banking.” Following the Fed’s approach, there are inherent moral hazard issues – incentives for financial institutions to increase leverage, to become too-big-to-fail. To address a panic that might happen anyway, the Fed would double down (provide more liquidity), potentially exacerbating future banking panics. After yet another crisis, new rules are introduced to regulate banks. The resulting financial system may not be safer, but it will increase barriers to entry, further bolstering the leadership position of existing, too-big-to-fail banks. With all the government guarantees and too-big-to-fail concerns, banks might then be regulated in an attempt to have them act more like utilities. Ultimately, that might make the financial system more stable, but will stifle economic growth. Financial institutions, as much as we have mixed feelings about their conduct, are vital to finance economic growth, as they facilitate risk taking and investment.
The problem of all financial panics is not the gold standard – otherwise, the panic of 2008 would not have happened. The problem of financial panics is – again – that “longer-term, illiquid assets are financed by short-term, liquid liabilities.” Missing from Bernanke’s definition is a key additional attribute, leverage. A maturity mismatch without leverage might cause a lender to go bust, but – in our interpretation – does not qualify as a panic when a limited number of depositors are affected. The “panic” and the “contagion” may occur when leverage is employed, as it creates a disproportionate number of creditors (including consumers with cash deposits).
There’s a better way. To avoid having financial institutions serve as “panic” incubators, regulation should address the core of the issue. Bernanke shouldn’t use gold, as a scapegoat for all that was wrong with the U.S. economy previously, to justify a license to print money. First, failure must be an option; individuals and businesses must be allowed to make mistakes and suffer the consequences. The role of the regulator, in our opinion, is to avoid an event where someone’s mistake wrecks the entire system.
The easiest way to achieve a more stable financial system is to reduce incentives for leverage. A straightforward method is through mark-to-market accounting and a requirement to post collateral for leveraged transactions. The financial industry lobbies against this, arguing that holding a position to maturity renders mark-to-market accounting redundant. Consider the following example, which highlights the implication: assume a speculator before the financial crisis took a leveraged bet that oil prices – at the time trading at $80 a barrel – would go down to $40 a barrel. In the “ideal world” according to the banks, this speculator would not have been required to post collateral and would have been proven right when oil (briefly) dropped to $40 a barrel after the financial crisis. In reality however, as oil prices soared to $140 a barrel before declining, the typical speculator would have been forced to post an ever larger amount of collateral; likely, the speculator’s brokerage firm would have closed out the position, as the speculator ran out of money. The speculator lost money because he was unable to meet a margin call; importantly, though, the system remained intact. The speculator might complain: the price ultimately fell to $40! But such whining is futile because the rules of engagement were known ahead of time. As such, the speculator had an incentive to use less (or no) leverage. The bank’s attitude, in contrast, incubates panics. In this example, regulated exchanges exist. But even without regulated exchanges or easily priced securities, similar concepts can be developed.
Another way to make financial firms more panic prone is to require them to issue staggered subordinated debt. Rather than relying heavily on short-term funding (retail deposits or inter-bank funding markets), banks should be required to stagger the maturities of their own funding over years. If, say, each year 10% of their loan portfolio needs to be refinanced, then – in times of financial turmoil – it might become exorbitantly expensive for a bank to finance that 10% of their loan portfolio. A bank should be able to shrink its loan portfolio by 10% in a year in an orderly fashion, without jeopardizing the survival of the firm or spreading excessive risks throughout the financial system. Note that this is a market-based mechanism to police the financial system.
These concepts reduce leverage in the system. And that’s the point, as leverage is the mother of all panics. The concepts presented above will not solve all the challenges of banking, but blaming “the problem of the gold standard” for financial panics is – in our analysis – premature.
Modern central banking is not the answer to mitigate the risk of financial panics because the cost for this perceived safety is enormous. As a result of responding to each potential panic with ever more “liquidity”, entire governments are now put at risk when a crisis flares up.
Beyond that, central banks have done a horrible job in containing inflation. The wisdom of central banking is that 2% inflation is considered an environment of stable prices. At 2%, a level often touted as a “price stable environment”, the purchasing power of $100 is reduced to $55 over a 30-year period. It’s a cruel tax on the public. What’s more, in practice, countries with a fiat currency system have generally been unable to keep long-term inflation below 2%.
Bernanke warns of deflation. To the saver, deflation is a gift. Not to the debtor. In a debt driven world, deflation strangles the economy. Governments don’t like deflation as income taxes and capital gains taxes are eroded. In a deflationary world, governments would need to rely more on sales taxes (or value added taxes): gradually reduced revenue in a deflationary environment would be okay as the purchasing power of those tax revenues would increase. That assumes, of course, that the government carries a low debt burden — deflation would be a good incentive to limit spending. Get the picture why governments don’t like deflation?
Read John Butler’s new book
The Golden Revolution: How to Prepare for the Coming Global Gold Standard
With inflation, people have an “incentive” to work harder, to take on risks, just to retain their purchasing power, the status quo. What about the pursuit of happiness? The idea that if you earn money and save, you can retire and live off your savings? We consider it quite an imposition that unelected officials have such sway over our standard of living.
Bernanke also attacks the gold standard for causing havoc in the currency markets. Please subscribe to our newsletter to be informed as we provide food for thought about the relationship between gold and currencies. We will also discuss what investors may want to do in a world that has moved further and further away from the gold standard. Subscribe to Merk Insights by clicking here. Also, please click here to register for the Merk Webinar: Quarter 1 Update on the Economy and Currencies which will take place on Thursday, April 19th at 4:15pm EF / 1:15pm PT. We manage the Merk Funds, including the Merk Hard Currency Fund. To learn more about the Funds, please visit www.merkfunds.com.
Manager of the Merk Hard Currency Fund, Asian Currency Fund, Absolute Return Currency Fund, and Currency Enhanced U.S. Equity Fund, www.merkfunds.com
Axel Merk, President & CIO of Merk Investments, LLC, is an expert on hard money, macro trends and international investing. He is considered an authority on currencies.
The Merk Hard Currency Fund (MERKX) seeks to profit from a rise in hard currencies versus the U.S. dollar. Hard currencies are currencies backed by sound monetary policy; sound monetary policy focuses on price stability.
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Tags: Ben Bernanke, Central Banks, Core Issue, Depositors, ETF, ETFs, Fed Chairman, Financial Institutions, Financial Panic, Financial Panics, Financial Stability, George Washington University, Gold Standard, Hazard Issues, Illiquid Assets, India, Key Objectives, Lecture Series, Lender Of Last Resort, Long Term Loans, Moral Hazard, Price Stability, Short Term Deposits, Term Lenders
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Wednesday, March 28th, 2012
This article originally appeared in the Daily Capitalist.
Economists cling to statistical data like barnacles in order to have some kind of anchor to explain what is going on in the world. They will try to cram the square data peg into the round holes of economic ”laws” rather than abandon them when they are obviously wrong. Which is not a very satisfactory way to explain things. You might begin to think the data you measure is just coincidentally correlative for the period measured if it falls apart at some point. Instead of trying to stretch the data into what you think it should be, then maybe you might think that you’ve got it all wrong.
Chairman Ben Bernanke is not letting a data inconsistency get in the way of his prior conclusions about unemployment. In his speech today, he says that he’s not sure why we have such high rates of unemployment, some may be just cyclical, some may be structural, but whatever it is the Fed will be available to print money to “support demand and for the recovery.” Somehow QE1 and QE2 were not enough.
In his speech Bernanke tries to explain why Okun’s law (a correlation between GDP and employment/unemployment) is still valid yet doesn’t explain the current situation. Perhaps GDP “growth” Bernanke sees is really a figment of money steroids, something the Fed has unleashed, and that unemployment is still high because of long-term capital/savings destruction caused by QE and ZIRP.
If you look at the rate of employment to the working population, you might wonder why it crashed so disproportionately to past cycles:
The blue line is the ratio of employment to population; the red line shows population growth. The population is still growing but the ratio fell off a cliff. The ratio of employed to population is back to 1977 levels. This is not something Chairman Bernanke wishes to hear or believe. He would rather adhere to the outdated ideas of the mainstream rather than question the dogma.
This is apropos of a conference sponsored by the Fed last Friday on, among other topics, the efficacy of quantitative easing. The conclusion coming from a Fed conference should be pretty obvious: QE is successful. The paper presented by economist Mark Gertler of NYU, a close collaborator with the former Professor Bernanke, concludes that QE works and he has an econometric model to prove it. What he does is look at what he considers to be the proper data and concludes that there is cause and effect and then he builds a mathematical model around this and believes it works. If his interpretation of the data is incorrect then the model is incorrect.
Here is a portion, out of context, of Gertler’s model:
Etcetera. You would have to be an econometrician to understand this. But it is just a way to disguise false ideology by cloaking it in mathematical formula. See Hayek and Mises on this topic. Because the formula “works” doesn’t mean it is right. Believe what you want to believe.
I think this is mostly an ad hoc ergo propter hoc (A happened and then B happened, thus A caused B) kind of analysis and that his conclusions are based on incorrect theory and fail to explain anything. But it doesn’t matter if he’s right or wrong for our purposes because Bernanke and most of the people at the Fed believe it. We can thus be assured that the Fed will unleash another round of QE when the economy stagnates (as I have forecast that it will).
It matters if he’s right or wrong for our purposes as investors though, because QE distorts the entire economy, gives an illusion of growth, destroys capital, causes more unemployment, and leaves the economy structurally impaired for a considerable time. One of the nasty little side-effects of QE that is most recognizable to investors and consumers is price inflation. It is probably higher than it is reported but it would grow much higher with more money printing. It destroys your wealth. It is possible, as we found out in the 1970s that you can have economic stagnation and high inflation at the same time.
What we are seeing now in the data is an effect from QE1 and QE2 and Operation Twist. It cannot last and it won’t because you can’t create wealth out of thin air as they are attempting to do.
Bernanke’s speech is another example of Mr. Bernanke’s admission that he does not understand the fundamentals underlying our economic problems. Otherwise Fed policies he unleashed would have cured the problem long ago.
Just last Thursday in an econ class at George Washington University he said the Fed’s low-interest-rate policies in the early 2000s didn’t cause the housing boom and bust:
“There’s no consensus on this,” Mr. Bernanke told a class of college students at George Washington University. “But the evidence I’ve seen suggests that monetary policy did not play an important role in raising house prices during the upswing.”
The housing boom-bust must have been caused by “irrational exuberance” which was Alan Greenspan’s “animal spirits” Keynesian explanation for the Dotcom bubble. Greenspan has also denied that he caused the housing bubble.
What can one say about this? There is actually very good evidence that the Fed’s easy money policy was the fountainhead of the bubble. But readers of the Daily Capitalist are well aware of that.
These speeches are further confirmations of disastrous Fed monetary policies that won’t end until the Fed raises interest rates and stops printing money. I’m betting on stagnation, more QE, and higher price inflation.
Tags: Barnacles, Ben Bernanke, Correlation, Correlative, Data Inconsistency, Dogma, Economic Laws, Economists, Employment Unemployment, Fed Policy, Figment, GDP Growth, Long Term Capital, Outdated Ideas, Population Growth, Qe, Red Line, Statistical Data, Steroids, Zirp
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Monday, March 19th, 2012
James Grant, publisher of Grant’s Interest Rate Observer, talks about Federal Reserve monetary policy, the bond market and investment strategy. Grant, speaking with Deirdre Bolton on Bloomberg Television’s “Money Moves,” also discusses the Chinese economy.
Link if video does not play: Bond Market ‘Desert of Value’
Select Interview Quotes
Grant: The Fed seem bent on suppressing this most elegant thing we have called a price mechanism, the movement of price that determines all manner of things in a market economy. Yet the Fed seems bound and determined to superimpose its will in place of the price mechanism. Take the bond market for example, the Fed has hammered down yields directly and indirectly and in response people are throwing money at things like high-yield or junk bonds. These are the prices the Fed wants, but are they the right prices? No not necessarily.
Deirdre Bolton: How is a bond investor to deal with this current environment? You are calling actually for a bear market in bonds, am I correct?.
Grant: I have forever. So I am no help there. But it seems to me a bond investor is almost better off in cash. If you were to go out 10 years in a US treasury security you earn yield of approximate 2%. To remain in cash and be flexible you sacrifice those 2%. The bond market is a desert of value.
Deirdre Bolton: What does this mean for gold?
Grant: The price of gold is the reciprocal of the world’s faith in the deeds and words of the likes of Ben Bernanke. The world over, central banks are printing money as it has never been printed before. The European Central Bank has increased the size of its balance sheet at the annual rate of 89%. It’s amazing. The Fed is far behind at only 15%. The Bank of England 67% over the past few months. These are rates of increases in the production of paper currencies we have never seen in the modern age. It takes no effort at all. They simply tap the computer screen.
Time for an “Office of Unintended Consequences?”
Grant proposes the Fed start an “Office of Unintended Consequences” to study all the things that go wrong with Fed policy.
I believe Grant is speaking tongue-in-cheek. We certainly do not need such an office. Instead, we need to abolish the Fed.
Tags: Bank Of England, Ben Bernanke, Bloomberg Television, Bond Market, Central Banks, Chinese Economy, Deirdre Bolton, Economy Link, Federal Reserve Monetary Policy, Interest Rate Observer, Investment Strategy, James Grant, Junk Bonds, Market Economy, Paper Currencies, Price Mechanism, Price Of Gold, Printing Money, Treasury Security, Us Treasury
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Sunday, March 4th, 2012
The Economy and Bond Market Radar (March 5, 2012)
Treasury bond yields were mixed this week as the short end of the yield curve fell slightly while the long end was essentially unchanged.
Global economic data was mixed with a slight positive bias. Purchasing managers indices (PMIs) were released in many countries around the world this week with PMIs improving in China, but U.S. manufacturing cooling in February. The European Central Bank completed another round of Longer-Term Refinancing Operations (LTRO) funding this week, lending over $700 billion in 3-year loans to eurozone financial institutions.
The effects of the LTRO program can be seen in the chart below, which shows the yield on the 10-year Italian government bond. The first tranche was issued in late December and effectively eliminates a near-term liquidity event as banks are able to lock up as much funding as needed with the relatively long term 3-year loans. The drop in yields is remarkable and also coincides with the “risk on” trade in equities.
- China February PMI is at 51, indicating economic expansion.
- U.S. auto sales were very strong in February with Chrysler’s sales rising 40 percent and Ford’s rising 14 percent.
- Retail sales were also generally better than expected as warm weather helped lift sales.
- January durable goods orders fell 4 percent, which was the biggest drop in three years. Orders were likely pulled into December due to tax incentives that expired at year end.
- India’s GDP grew 6.1 percent in the fourth quarter but that was the slowest growth in three years.
- The ISM manufacturing index fell to 52.4 in February. While still growing, it was the first decline in three months.
- Fed Chairman Ben Bernanke spoke to Congress this week and effectively indicated no change in monetary policy, which implies continued low interest rates for the foreseeable future.
- Coordinated global easing from the world’s central banks should eventually create inflation.
Tags: Ben Bernanke, Central Banks, Durable Goods Orders, Economic Expansion, Fed Chairman, Government Bond, Ism Manufacturing Index, Italian Government, Liquidity Event, Low Interest Rates, Market Radar, Pmis, Purchasing Managers, S Sales, Tax Incentives, Term Liquidity, Treasury Bond Yields, U S Auto, Warm Weather, Yield Curve
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