from David Cay Johnston:
The hidden dangers of low interest rates
The Fed's campaign to hold short-term interest rates near zero is a loser for taxpayers. A rise in rates would also burden taxpayers, but it would come with a benefit for those who save.
Low rates keep alive the banks that the government considers too big to fail and reduce the cost of servicing the burgeoning federal debt. Low rates also come at a cost, cutting income to older Americans and to pension funds. This forces retirees to eat into principal, may put more pressure on welfare programs for the elderly, and will probably require the government to spend money to fulfill pension guarantees.
Raising interest rates shifts the costs and benefits, increasing the risks that mismanaged banks will collapse and diverting more taxpayers' money to service federal debt. On the other hand, higher interest rates mean that savers, both individual and in pension funds, enjoy the fruits of their prudence.
No matter which way interest rates go, taxpayers face dangers. The question is where we want to take our losses. For my money, saving the mismanaged mega-banks should be the last priority and savers the first. Of course breaking up the big banks or letting them fail also imposes costs and low interest rates benefit many Americans, though mostly those with top credit scores, but policy involves choices and rescuing banks from their own mistakes and subtly siphoning wealth from the prudent is corrosive to the ethical and social fabric.
ON THE RISE?
The federal government paid $454 billion in interest on its debt in 2011. That is the equivalent of all the individual income taxes paid last year through the first three weeks of June
If rates return to, say, 6.64 percent, the level they were in 2000, one year's interest costs would equal the individual income taxes for all of 2011 plus the first few weeks of 2012.
Fed up with Bernanke
By Nicholas Wapshott The views expressed are his own.
There is one thing every Republican candidate agrees on. Once in the White House, the first thing they’d do is fire Ben Bernanke. His crime is to follow the legal brief of the Federal Reserve to maximize jobs and keep prices stable. To this end he has been printing money to keep interest rates low to boost business confidence to invest and thereby create more American jobs. For many conservatives and libertarians, who dominate the early GOP caucuses and primaries, Bernanke’s cheap money policy has dangerously devalued the dollar’s worth.
Guaranteeing cheap money is a Keynesian way of restoring health to an economy in recession, though Keynes himself was aware that low interest rates do not automatically lead to jobs. However cheap money is, you can’t force people to invest. Or, as he put it, “You can’t push on a string.” He compared it to buying a bigger belt to gain weight. The fact that Keynes backed easy credit is enough to make the policy treacherous in the eyes of many con-libs. (They are far more tolerant of another Keynesian remedy–slashing taxes.)
Bernanke, however, owes his allegiance not to Keynes but to Milton Friedman. To encourage growth without hyper-inflation, Friedman prescribed gradually increasing the money supply. That way, prices would rise slowly and predictably. Bernanke is also an expert on the 1929 Crash and the Great Depression, catastrophes he, like Friedman, attribute to the 1920′s Fed keeping money too tight for too long. As Bernanke told Friedman on the father of monetarism’s 90th birthday, “You’re right. We did it. We’re very sorry. But, thanks to you, we won’t do it again.”
The legislation setting up the Fed in 1913 went out of its way to ensure that the Fed would be free of political interference so that monetary policy could be independent of politicians with short-term aims. It stipulated that the Fed should fund itself, depriving Congress of its traditional means of starving programs and institutions it doesn’t like. It gave Fed board members long terms, 14 years, with the chairman serving for four.
The sole means of influencing the Fed are through appointments and Fed board salaries. Bernanke’s current term ends in 2014* (see editor’s note), when he or his potential successor, nominated by the president, must be approved by the Senate. (The GOP candidates’ demand that Bernanke leave before his term ends would trigger an ugly constitutional crisis much like Franklin Roosevelt’s failed attempt in 1937 to pack the Supreme Court.) By demanding Bernanke’s head on a plate, however, the con-libs have served notice that the Fed’s days of independence are numbered and that every new appointment, like those to the Supreme Court in recent times, will trigger a pitched battle.
The politicization of the Fed and the arguments about its role and its future is perhaps the most significant change in a generation to the way politics is pursued. And it runs counter to best practice in other countries, where politically directed central banks have bowed to short term political demands rather than achieve long term national goals.
Given Wapshott’s recent book his opinions here seem odd.
Bernanke has clearly failed at least in part due to his reliance on Keynesian assumptions. He did not take action to prevent the credit bubble from forming, did not even see the downturn, and when it did arrive failed to understand just how bad it really was. He continues to use methods and tools that are purely Keynesian that those influenced by Hayek would naturally object to and rightly fear.
I’m skeptical of assertions that but for his interventions all would be lost.
So given Bernanke’s record that he should be removed is hardly politicizing the Fed.
Further, a review of the views of the current Board at the Fed reveals a preponderance of people holding similar views as Bernanke. That this imbalance should be corrected with the adding to the Board of people sympathetic with the Hayekian point of view would also seem not to be so much politicization as restoring sound management.
How Citi sank itself on the Fed’s watch
By Nicholas Dunbar The opinions expressed are his own.
Much of the financial crisis can be blamed on bankers who created complex products that allowed them to exploit and monetize less sophisticated investors, borrowers and bank shareholders. However, no account of the financial crisis is complete without an account of the inept regulators who permitted these activities to flourish, causing the crisis to become much worse than it might have been. Among these regulators, most surprising is the story of the New York Fed, supposedly the most sophisticated in its approach to risk. As I recount in this excerpt from my book, The Devil’s Derivatives and as staff at the Federal Reserve Board in Washington DC discovered, the New York Fed was in thrall to what in 2007 was the largest US bank – Citigroup – with disastrous results. -Nicholas Dunbar
The Federal Reserve may have been at the top of the U.S. regulatory pecking order, but within the Fed itself, the New York branch was top dog when it came to regulating banks. This was hardly surprising given the dual importance of Wall Street as the engine room of the bond markets and as the base for the largest multinational U.S. banks. It was only natural that industry risk-management innovations like VAR were first identified by staff in the New York Fed’s markets divi- sion, such as Peter Fisher, who transmitted the ideas to the rest of the regulatory community.
Ever since the regulatory blessing of VAR in the mid-1990s, the New York–based multinational banks had been growing rapidly. By 2003, when William McDonough retired as New York Fed president and was replaced by Timothy Geithner, an ambitious former Treasury and International Monetary Fund bureaucrat, bank supervision was equally important to markets.
If any U.S. commercial bank needed to be challenged, it was Citigroup. In 1999, when then-chief executive Sandy Weill had needed an act of Congress in order to fuse the SEC-regulated Salomon Brothers with Fed- and OCC-regulated blue-chip lender Citibank, he had taken care to reassure his new shareholders and supervisors about the importance of governance. A veteran ex-AIG and Chemical Bank executive, Petros Sabatacakis, was appointed chief risk officer of the new conglomerate and ordered to rein in the freewheeling Salomon traders. Sabatacakis was so tough in applying position limits that on the trading floor he was known as “Dr. No.”
Then came Enron and the dot-com bust. Sabatacakis may have ensured that the bank (unlike Chase Manhattan) avoided significant losses in the shakeout, but Citigroup’s conflicted role in bond underwriting, derivatives, and investment research left it open to the charge of having facilitated massive fraud at Enron and WorldCom. That led to the New York Fed and the OCC censuring the bank in July 2003, as part of a settlement in which it didn’t have to admit wrongdoing. Weill was forced to quit as chief executive (while remaining chairman).
from Jeremy Gaunt:
Twisted Sister and the Federal Reserve
The Federal Reserve's "Operation Twist" has set the literary- and musical-allusion juices flowing. It is all about the Fed selling or not rolling over short-term debt and buying long-term bonds instead in order to keep borrowing costs low.
But that is frightfully dull for economists, analysts and reporters trying to get attention for their work. So, so far we have heard:
-- "Let's Twist Again", a reference to the 1960's Chubby Checker record about the dance craze . Problem is that the second line is "Like we did last summer", and the Fed did nothing of the sort, launching plain old quantative easing instead.
-- Twisted Sister might be a contender, but the heavy metal band's big hit "We're Not Going To Take It" probably better descibes market reaction to euro zone debt-crisis policy.
-- "Twist and Shout", a reference to the rock song covered by The Beatles, among, others. This is better. "Well, shake it up, baby, now" could indeed be the clarion call from financial markets for the Fed to so something, almost anything. But "Come on and twist a little closer, now, and let me know that you're mine" might be going a little far.
-- So the prize for now goes to literature not music: "Oliver Twist". Young Master Twist's "Please Sir, I want some more" just about sums it up.
Any others?
The Fed must print money to head off a global crash
By Adam Posen The opinions expressed are his own
It is past time for monetary policy to be doing more to support recovery. The Jackson Hole conference has come and gone, and no shortage of excuses was provided for central banks to hold their fire — even though most economists acknowledged the grim outlook for the advanced economies.
Too much attention has been paid, however, to the failings of fiscal policies and to the shortfall from effects of earlier quantitative easing. Further asset purchases by the G7 central banks are needed to check not just a downturn, but the lasting erosion of productive capacity and of debt sustainability — especially when even justified fiscal and financial consolidation is undercutting short-term recovery. Easier monetary policy will increase the odds of other policies improving, and those policies’ effectiveness when they do.
It is also past time to stop fearing inflationary ghosts. There is no credible threat of sustained higher inflation in the advanced economies that should restrain central bank action. The rate of wage growth is tepid and compatible with price stability, at most, even in Germany; the inability of wages to keep up with recent real price shocks underscores the ongoing downward pressure from labour market slack. Consumption was driven down by fiscal tightening and household retrenchment as much as oil prices, and those forces will be ongoing. Had consumer confidence not been weakly footed to begin with, the oil shock would not have had such an impact.
Commodity prices have since demonstrated again that they go down as well as up, and thus monetary policy should not react to their short-term gyrations (and deceleration in Western growth will likely send them further downwards). Credit and broad money aggregates are barely growing and current account deficits are slowly shrinking, so no asset price bubbles will emerge. Importantly, interest rates on long-term G7 government bonds display no consistent rise in inflation expectations, no matter how the data is parsed.
Some of us had seen this coming. This is what happens to economies following a financial crisis, particularly when the crisis hits simultaneously across integrated markets. That is why I began advocating more quantitative easing in the UK a year ago. Yet even if some believe that the recent setbacks reflect new developments — rather than just long-run vulnerabilities (fragile Central European banking systems, dysfunctional American fiscal politics, British over-dependence on the financial sector) exposed by the crisis — that still should be enough to downgrade any plausible prior forecast for growth and inflation to where additional monetary stimulus is called for on its own terms.
Just because a downturn is expected does not mean its course is inevitable, and some of the present prospects’ severity certainly still can be usefully offset. The lesson from past post-crisis recoveries, whether from the late 1930s worldwide, the late 1990s in East Asia, or the 2000s in Japan is that aggressive monetary easing can ease the process of real adjustment and limit its lasting damage to economies and to people. Insufficient monetary stimulus, let alone premature tightening, makes fiscal and financial problems worse, and raises prospects for dangerous political reaction to policy failure.
Well if you work for a monetary regime on the cusp of an integrated collapse, wouldn’t you incent it to fail outright and still make money doing it?
From their perspective, it’s time to wholly collapse the fiat regimes dated to 1971 and create a new one.
Here’s a quote from a good NFL coach, Denny Green: “The great thing about America is that everyone is entitled to an opinion, another great thing about America is you don’t have to listen to them.”
Here’s my take – I’m not listening, being American. The English can have their inflation and eat it too.
from Jeremy Gaunt:
The unsyncopated rhythm of central banks
The European Central Bank is off and running with its tightening cycle -- raising by 25 basis points last week and talking in tongues enough to persuade markets that another hike is coming by July. At the same time, the Fed -- despite some hawkish comments recently about QE -- isn't seen actually tightening for some time. Next year, actually.
Bank of America-Merrill Lynch is now wondering whether there is something wrong with this. " Surely one of these central banks is heading to a painful policy mistake? " it says.
Key to the question is the fact that U.S. and euro zone economics are not as far apart normally as one might think. Take growth, where there is a 0.6 positive correlation between the two across business cycles. Or inflation. The correlation there is even greater at a positive 0.75 over a whole economic cycle.
So the two economies are pretty correlated. But the United States is usually ahead in changing gears with monetary policy, with the ECB -- and its economy -- lagging.
BofA -Merrill notes that this pattern was shattered last week when the ECB went first. "Assuming both central banks continue to be as responsive to growth and inflation as they have been in the past," it writes, "the ECB’s sprint ahead of the Fed suggests something fundamental is no longer in sync."
Bernanke’s high stakes poker game at the G-20
By Peter Navarro The opinions expressed are his own.
Ben Bernanke is about to play the biggest poker hand in global monetary policy history: The Federal Reserve chairman is trying to force China to fold on its fixed dollar-yuan currency peg. This is high-stakes poker.
Although Bernanke will not be sitting at the table to play his quantitative easing card when all the members of the G-20, including China, meet this week in South Korea. Every G-20 country is suffering from an already grossly under-valued yuan pegged to a dollar now falling rapidly under the weight of Bernanke’s QE2. In fact, breaking the highly corrosive dollar-yuan peg is the most important step the G-20 can take for both robust global economic recovery and financial market stability.
Regrettably, China continues to believe — mistakenly — that the costs of a stronger yuan in terms of reduced export-led growth outweigh three major benefits: increased purchasing power to spur domestic-driven growth, significantly lower costs for raw materials and energy, and a dramatic reduction in speculative hot flows rapidly pushing up inflation.
Of course, the biggest victim of the peg is the U.S which can never eliminate its huge trade deficit with China through currency adjustments. The resultant chronic trade imbalance shaves almost 1% from America’s annual GDP growth rate and costs almost 1 million jobs a year.
Europe, with the notable exception of Germany, suffers a similar problem because of a euro overvalued relative to the yuan. Moreover, as the dollar-yuan pair declines under the weight of QE2, the risk of recession in Europe rises. For its part, Germany largely avoids the peg’s damage through robust exports to China. In addition, Germany’s higher savings rate coupled with vaunted cost efficiencies have allowed it to gain at the expense of other more free-spending countries of the euro zone. Politically, this spells trouble because Germany’s separation from the euro zone pack makes it the one country most likely to align with China.
In sharp contrast, Japan has been brought to its knees by China’s fixed peg. Every time the U.S. dollar declines in value and pulls the yuan down with it, Japan (as well as fellow G-20 members South Korea and India) lose more jobs and growth to China. As a further injury, China has aggressively pushed up the yen up through massive interventions in the Japanese market.
By linking the currency the Chinese have linked the US and Chinese economy. What better than to have no currency risks with your major customer. If the US devalues then its currency will also devalue vs the rest of the world giving it competitive advantage.
When the Fed pumps money into the economy, it is in effect pumping money into the combined Chinese US economy. Guess where all the money will end up. In low cost/ high return China ofcourse.
So you have inflation in China and deflation in USA. If the Chinese dont give in on exchange rate and they just tighten then there could be a hard landing in China. Thats after a hard landing happens in other developing economies and US enters another recession. Hopefully sense will prevail before then.
Institutional failure week
-The opinions are the author’s own-
By the end of this week, the U.S. will face a government that is unable to act to aid the economy and a Federal Reserve that is unable to stop.
The stock market may well rise on this dysfunctional combination, only serving to prove that the economy and market are becoming fundamentally disconnected.
Tuesday’s election may well deliver a split Congress with the Republicans in control of the House of Representatives and the Democrats clinging to a narrow majority in the Senate. This means that there is no chance of further meaningful stimulus and that Democratic timidity will likely harden into an intransigence to match that of the Republicans.
Rather than building bridges, the next two years will be spent dickering over tax codes, and, as the 2012 election nears, fighting trade and currency wars.
Many will argue that this is right, that the election will freeze stimulative spending that is wasteful and unpopular.
Perhaps, but economic growth is extremely weak. The initial reading of third-quarter gross domestic product, released on Friday, showed the economy expanding at a faster 2.0 percent rate. Most of the growth, however, was from inventory rebuilding, a process that is very likely to slow. Actual growth in real final sales was an anemic 0.6 percent, making this the weakest such recovery on record, according to economist David Rosenberg of Gluskin, Sheff.
Ron Paul is trying to downgrade power of FED and in yesterdays interview said: ‘If we succeed in Congress/Senate to challenge the power of FED significantly (what he suspect is not possible right now) ANY president would veto such decision’. Scary conclusion about real FED power. People and their representative including president cannot stop harmful actions of private cartel in any ways? Good morning America.
from MacroScope:
Did France cause The Great Depression?
Economist Douglas Irwin of Dartmouth College has stirred up a bit of a fuss by concluding in some academic research that it was France, not the United States, that was most to blame for The Great Depression.
Irwin's theory, in a paper posted here by the National Bureau of Economic Research, is that France created an artificial shortage of gold reserves when it increased its share from 7 percent to 27 percent between 1927 and 1932. Because major currencies at the time were backed by gold under the Gold Standard, this put other countries under enormous deflationary pressure.
To prove his point, Irwin ran a model looking at what would have happened without the French move. The results:
Counterfactual simulations indicate that world prices would have increased slightly between 1929 and 1933, instead of declining calamitously.
All this runs counter to the traditional finger-pointing for The Great Depression, which has it that the U.S Federal Reserve tipped the world into the economic abyss by tightening monetary policy.
Irwin does not let the Fed totally off the hook, however. He concludes that France was "somewhat more" to blame than the United States for the worldwide deflation of 1929-33 and that the deflation could have been avoided if central banks had simply maintained things as they were in 1928.
Fed is split but QE2 looks a done deal
- The opinions expressed are the author’s own-
FOMC meetings are usually a strange combination of formality and easy-going familiarity but levity may be in short supply this week. The Fed’s institutional credibility is on the line, and the normal decorum that characterizes relations among committee members has become increasingly strained over the summer.
Divisions between proponents and opponents of a second round of quantitative easing (QE2) have been on display as never before. It is not clear what members will say to one another to fill two days since all the arguments have already been rehearsed in detail and in public over the last six weeks.
In a thinly veiled swipe at his colleagues, Kansas City Fed President Thomas Hoenig has stumped around his patch on the Great Plains denouncing QE as a “dangerous gamble” and “a bargain with the devil”.
Dallas Fed President Richard Fisher and Philadelphia Fed President Charles Plosser have made no secret of their skepticism or outright opposition to launching QE2 at this point. Minneapolis Fed President Narayana Kocherlakota has questioned whether it will work. Richmond Fed President Jeffrey Lacker has seemed to doubt whether it is necessary.
In contrast, the New York Fed (always the closest to the major money centre banks) and the St Louis Fed (the spiritual home of monetarism in the Federal Reserve System) have openly campaigned for the benefits of a second round of asset purchases.
The final vote to adopt QE2 looks set to be 10-1 (with Hoenig dissenting). But the tally will mask much wider misgivings among the non-voting regional presidents and perhaps among some members of the Board of Governors itself, who will nonetheless fall in line with the chairman to support his authority.
“I think in late 2011 or 2012 we will look back on QE2 and either say “what a good idea” or “boy was that dumb”.
Not a chance, you know what the average American will be saying then?
“Waa waaa waaa!” followed by “how do we deal with this In a forward looking fashion?”
Right now, how many people are truely saying “3 trillion in new spending was really dumb”?
None. & 90% don’t even know that we have FNMA and FRE in conservatorship, and monitized their debt of 14trillion+. They’re always looking to fix a problem using the new “future plan” when all the answers are right there by analizing the past. History will repeat itself again. The federal govt knows clearly that their only escape is to massively devalue the dollar. Big suprise there. Been going on expotentially since 1964 ( & 1913 by some accounts)
$160 for 2 burgers w/drinks by 2015
Higher interest rate can be achieved with economic growth and subsequent inflation.
At present there is scarcity of both.
As far as pension funds going dry, perhaps those “promises” where too fat to begin with.
Most of us have only SSA benefit to live with.