A red button has shown up where I work. Big and free standing, the button displays one word: “easy”. When it is pressed, a confident voice declares, “That was easy.” The toy reminds us that the only easy task in our information technology workshop is hitting the button. Bernanke has finally pressed the red button at the Federal Reserve that monetizes United States government debt. My fear is that he liked the praise from Capitol Hill, and then he put his fingers in his ears when criticism of buying treasury securities increased. My fear is that there are more attacks on financial sanity to come.
Some would say that the Federal Reserve Chairman has hit the panic button. I find it hard to argue that interpretation. The private economy is not recovering strongly enough to bring down the unemployment rate. Too many foreign countries still refuse to create free markets that allow US goods and services to be exported there. Only unsustainable government deficits have kept the American economy afloat. Political grandstanding and gridlock threatens to prevent change from the unfortunate status quo. Knowing that a balance sheet recession takes many years to clear out credit excesses requires neither a rocket scientist nor a doctor in economics, but it clearly takes someone other than short attention span political leaders and their appointees. A student of the Great Depression, helicopter pilot Ben does not want to be blamed for a relapse into recession no matter what is the long term cost.
To me, the red button that Chairman Ben hit represents nuclear Federal Reserve policy. The standard bullets have already been spent. He has brought down short term interest rates down to zero. He has provided liquidity and backed deals during the Wall Street meltdown of autumn 2008. He has even stepped outside his marching orders by buying toxic mortgage securities. All these battles have not produced the desired result. Mr. Bernanke thinks escalation is necessary. Printing electronic money to bail out the beltway politicians and their dangerous deficits avoids the difficult decisions involved in financial responsibility. No need to worry about what federal programs to cut! No need to worry about taxes! Create money from nothing with one bold stroke! It’s just for one year, right? Just nuke the problems away!
What amuse me are smart people that waste precious heartbeats discussing or criticizing the official reasons for the second round of “quantitative easing”. These people are either gullible, or paid to advance an agenda. Stimulating the economy by lowering interest rates? Give a break. Interest rates are already at generational lows, and people aren’t borrowing. Those who are creditworthy already have enough houses filled with enough stuff. Everyone else is over their heads in debt, not credit worthy, and unable to borrow. Stimulating the economy by providing free money to bid up asset prices? Sure. So what if rich people feel wealthier, spending more on expensive trappings? Trickle down theory was voodoo economics 30 years ago, and still is today. The reasons why Mr. Bernanke ordered QE2 are not the official “spin.”
The debate over why Bernanke did the deed should begin and end with the question: How does QE2 help the banks? On the surface, propping up the treasury note and bond market would seem to hurt the banks. They get less profit borrowing at zero and lending out, for example, to the US treasury, and keeping the spread. Just like QE1, he as planned to buy assets from banks at high prices. How, since he is not buying them directly? The banks can sell into this propped up, highly liquid market in which no large transaction happens in isolation.
The banks can then use the cash to (1) add to loan loss reserves, or (2) take advantage of increased speculation in global markets via the extra $600 billion in liquidity to make money at their trading desks. Big money is made by trading, not by banking. Also, the trading risks taken by too big to fail banks are borne by the Federal Reserve and the taxpayers. Of course, the smaller banks don’t have trading desks, or lobbyists in Washington, or the access to pull a finger out of Bernanke’s ear. Not considered part of “systemic risk,” the small banks must fend for themselves. Many big banks, even after all the accounting gimmicks and bailouts, are being dragged down by more toxic mortgage debt. Bernanke does not want a repeat of 2008. Thus, he’s giving cash to banks now in exchange for securities before they drop in value.
Ben Bernanke does not want to be blamed for a deflationary depression happening on his watch. He thinks he can save his reputation primarily by saving the banks. If money printing later causes politically uncomfortable inflation, he feels like either he won’t be on the Federal Reserve Board then, or he can deal with it on the fly by hiking interest rates.
QE2 marks a beginning, not an end or even a second round. Now that the nuclear option has been exercised, restraints are gone. When the impotent legislative and executive branches continue their addiction to debt, either because of misguided and intransigent ideologies, or well funded special interests, further monetization will come. The strategy will shift from saving the banks to buying time. Since the consequences at any point in time up to falling off the cliff will not seem dangerous, more rounds of money printing will occur until it seems normal. But there will be nothing normal about a precipitous drop in the purchasing power of the dollar. The civilians on Main Street remain blissfully unaware that one more icon of economic faith is about to be smashed. The American consumer will become the collateral damage of the extended Great Recession. The current Kontratiev winter will then transform into a nuclear winter.
Copyright ©2010 by Chuck DiFalco
