The entire World is hanging onto whether the Federal Reserve is going to continue buying Treasury bonds after the end of June.
What the Fed does or doesn’t do is unimportant. The Fed cannot print oil or jobs. It cannot create value. All it can do is pretend and hope someone pays attention.
The Fed is irrelevant. People complain about the Fed and free money, about the Fed and it’s friends. In the greater scheme of things, the Fed and Friends don’t matter.
Speculators may or may not obtain some free money. From now to the end of time — regardless of what happens in the greater world — speculators will gain free money. Our economy is a casino. There has to be free money or the casino fails: without free money parachuted onto some random ‘winner’ every now and then, nobody would ever enter the casino.
The only way to end the free- casino- money- dynamic for management to shut it down. Not to be: noblesse oblige works backward in America. Not only does the casino own the management but the deluded ‘little people’ adore the free- money idea, even though they never see any themselves.
Central bankers’ dilemma is this: absent the promise of ongoing, large doses of free money, deflation will leap out from behind the door like a werewolf. Meanwhile, the doses have stopped working, the werewolf is escaping out the window!
What to do?
A surplus of credit is still a surplus: here’s Steve’s First Law of Economics … again! The costs of managing the credit surplus are in the current process of exceeding the value of the credit itself. The costs are the werewolf; the larger the surplus of central bank credit, the more bulbous and destructive the werewolf becomes. Instead of banishing the werewolf, the establishment has been feeding it.
Because the costs emerge outside the Treasury market- interest rate ambits, the central banks (and economists such as Paul Krugman) sweep them under the carpet and pretend they aren’t real.
No HelpVan Hoisington — Lucy Hunt PhD (HT Cate Long):
If the objectives of Quantitative Easing 2 (QE2) were to: a) raise interest rates; b) slow economic growth; c) encourage speculation, and d) eviscerate the standard of living of the average American family, then it has been enormously successful. Clearly, with the benefit of 20/20 hindsight these results represent the Federal Reserve’s impact on the U.S. economy, regardless of their claims to the contrary.
For example, the Fed promoted the idea that implementation of QE1 and QE2 would lower interest rates. Apparently this fantasy was based on the assumption that the flow of their purchases would heavily offset (and in the case of QE2 almost fully offset) the flow of new debt being issued by the U.S. Treasury. This flow analysis appears irrefutable in concept, but actually interest rates rose across the yield curve in both cases. Why? Concentrating on the flow of Treasury debt, apparently the Fed failed to take into account that the existing stock of outstanding Treasury debt totaled nearly $8 trillion.
The holders included individuals, mutual funds, pension plans, insurance companies, state and local governments and foreigners. Their actions indicate that they perceived Federal Reserve activity to be inflationary, and therefore harmful to their position. Their response was to reduce their relative holdings of Treasuries and purchase riskier assets.
Risky assets, like gold, eh?
The bulk of the $8 trillion debt was issued in just the past 10 years. The Fed can control the short end of the yield curve because the securities it buys with free money can be easily held to maturity. Bernanke buys directly from the Treasury: maturity is a matter of days. Proceeds are rolled over into new issues. The Fed can outbid everyone else w/ its unlimited supply of cash- in- pocket or it can dump tractor- trailer loads of securities it already owns onto the market. By doing so the Fed can defend a security’s marginal price — and the money- cost/interest rate at the same time.
With the longer dated securities, original purchasers (lenders) don’t necessarily hold issues to maturity. They buy and sell to third parties within secondary markets. A five- year security may be bought and held or it may be sold five- or twenty- or an unlimited number of times during the interval between issuance and maturity. Traders profit (or lose) from the changes in price just as they would profit from the change in the price of a commodity. Over the longer periods of time there are changes in supply and demand, which effect prices.
The Fed has zero- control over the price once the security enters the secondary market. Why? Because the ‘secondary market’ isn’t a place, it’s an idea. There is no ‘bond exchange’ or NASDAQ with a building somewhere the Fed can go to buy up all the bonds. I can sell 10 year Treasuries to some dude in an alley or on Ebay — as long as he has Internet and a means to pay. ‘Bernanke the Bystander’: he cannot bid for more than a tiny percentage of the $8 trillion at any given time.
The market is larger than the Fed and too diffuse. All the Chairman can do is jump up and down and wave his arms, like a paunchy, middle-aged Witch Doctor.
Traders ignore the Witch Doctor. What about the rest of us?
The Fed cannot fix anything because the problems in the ‘Economy? What Economy?’ are structural, centered around a ‘business plan’ that shovels perfectly good capital into a furnace. Calling what we have an economy is the same as calling a crack house an economy.
Monetary policy in the US has amplified hyperinflation in China and other commodity exporters such as Brazil and Vietnam by way of the dollar carry trade.
The Fed isn’t doing its day job: unemployment has been uneffected by easing, bank lending to small businesses is stagnant. These were the putative rationalizations for extending the QE policy in the first place.
The Fed doesn’t work: so what? The governments don’t work, either: How about those three US wars? How about the busted fiscal union in Europe? What is the latest nightmare from Fukushima?
The Establishment insists our ongoing energy shortage — production relative to supply — is addressable by fiddling with the cost of money. This insistence is not limited to the US central bank, it’s all of them. We are mired in an (energy) balance sheet recession that nobody is willing to deal with directly. The only way to fix our problems is to start with conservation, Because nobody wants to do with less or give up anything there is the fiddling with the money and ‘hope’.
‘Monetary policy’ is the part of the long line of organizational expedients from pop- culture’s grab bag: ‘the Easiest Solution’ lurking on the easy side of easy: austerity (for others), pitiless Austrian economics, stimulus spending, invasions, currency devaluations, neo- liberalism, Modern Monetary Theory, supply- side voodoo economics, ‘Objectivism’ … Every one shares as a matter of unspoken first principles a need for unlimited supplies of near- zero cost petroleum fuel. Costs exceeding zero by the smallest amounts are sufficient to derail the entire enterprise.
Given that energy is the constraint on the economy, adding or subtracting bank reserves is irrelevant to the overall economic outcome. Reserves are necessary when there are runs on the banks. A bank uses reserves to pay off the desperate multitudes lined up anxiously outside like extras in a Jimmy Stewart film. Since this sort of thing isn’t likely to happen beginning the 1st of July, the Fed is not going to add more reserves. There are plenty of reserves already.
“Let the depositors eat cake!”
A big collapse or crash won’t happen unless some ‘too big to fail’ institution like a Lehman Brothers blows up first. This is almost impossible because the systemically important ‘Key Men’ are propped up with Treasury guarantees and FDIC insurance, access to Fed discount facilities and creative accounting. The bigs laff: they are insolvent but it doesn’t matter, the bankers have nice buildings and they look good in suits. In ‘Warhol World’ where everyone is, a) fake and b) insane, looking good is all that matters/remains.
Central banks are irrelevant because ‘real’ monetary policy is made in two places and neither of them is a central bank. One place is Saudi Arabia, the other is at the gas pump. The Saudi oil minister can control the value of dollars, euros or whatever by turning a valve. The Saudis ‘produce’ something that actually effects output. Shutting off the valve sets in motion a well documented sequence. Frenzied bidding takes place for remaining oil followed by the shock- loss of fuel- driven output. The bidding part pushes the value of currency (dollars) down, the loss part pushes the currency value upward toward ‘infinity’.
$147 per barrel of oil becomes $34 per barrel: it’s the same barrel both prices. What changes is the value of the dollar.
Economics may not be simple but it’s brutal. What cannot be paid will not be paid …
Economic activity or output sets the price of industrial inputs. With constrained inputs there is a decline in activity leading to shrunken cash flows. These flows cannot push- or bid prices higher or service the debts taken on to do the same thing. Finance credit can bid the price of an ‘asset’ beyond what the profitable waste of that asset can support but can only do so for a short time period. An asset whose price is easily supported by casino finance — $147 — becomes an input too expensive to waste on ‘Main Street’.
When oil isn’t wasted profitably the price set in asset markets plunges — $34 — as traders become stuck with too much expensive oil and too few solvent oil wasters.
Every time a motorist fills the tank or chooses not to do so he or she makes monetary policy. Central banks can issue a lot of credit. Billions of motorists issue more. By purchasing fuel motorists ‘price’ dollars in fuel. By doing so they put a ‘floor’ under dollar value. As long as motorists are willing to part with dollars they take the time and effort to earn and producers willingly accept them, the dollars will have value regardless of what Bernanke or other central bankers desire.
Holding onto dollars in order to gain ‘future’ fuel rather than spending them now makes the dollars even more valuable. Dollars become proxies for fuel; each dollar represents a fixed amount of energy in hand.
For the past several months the Fed Boss and his cohort have been attempting to pry this monetary value- making leverage away from motorists and producers. The stakes are very high. A precious dollar will eventually destroy the US economy and the establishment understands this. They endlessly pimp consumption and non- dollar finance assets, raping the dollar in the process. They do this even though they can’t possibly succeed. We have an energy/resource problem that requires a resource solution.
The establishment has been looking @ money- cost approaches for the past four years. So far, none of the approaches have succeeded. None of the bubble attempts have worked for longer than a few months, neither has the currency union or the export of jobs. It’s time to forget the Fed and its ‘policies’ and start looking hard at energy consumption and our economy built around waste.