Fed: Stop the presses

August 7, 2009

On Thursday, the Bank of England said that it would run its printing press a bit faster while the European Central Bank hinted that theirs might slow down sooner than expected.

In the United States, the Federal Reserve’s printing press is running low on ink, and Ben Bernanke has his own choice to make: Buy a new cartridge or shut the thing down. He should shut it down.

In particular, I’m referring to the Fed chairman’s commitment to print $300 billion to buy Treasury bonds by the end of September.

So far the Fed has purchased $243 billion since the program began in March. He’s on schedule to hit the $300 billion mark next month, right on schedule. The question is whether he should buy more.  (Click table to enlarge in new window)


With some signs pointing to a recovery, the conventional wisdom is that the Fed can let the program expire. That’s right, but for the wrong reasons.

The problem with quantitative easing, and with all programs fiscal and monetary intended to artificially support asset prices, is that they badly distort markets, preventing them from grappling with the underlying problem of leverage.

They also send false signals to market participants that it’s safe to take risk.

Leverage is still at record highs. To take just one measure, according to the Fed’s first quarter flow of funds report, total credit market debt to GDP stood at 376 percent. (Click chart to enlarge in new window, ht Comstock Partners)


We’ve run up more debt that we can possibly pay. As any overextended borrower can tell you, the way to deal with excessive debt is to pay it down, or declare bankruptcy.

But quantitative easing encourages people to take on more debt.

Take homes, for instance. Mortgage rates are tied to Treasury rates, which are held artificially low thanks to the Fed. Low mortgage rates lead to higher house prices and higher house prices provide collateral to take on more debt.

But when the Fed’s artificial support is removed, prices will continue their march downward and borrowers will find they can’t pay off their last loan.

Every time we hit a recession, the Fed’s solution is to hit the gas, encouraging folks to go deeper into debt. For a time, credit expansion provides the illusion of economic expansion. Until, that is, inflation fears force the Fed to hit the brakes.

We’re addicted to debt. But instead of trying to kick the habit, we invent ever more creative ways to find our next fix.

Once upon a time, low interest rates were enough. Not anymore. So the Fed devised a dangerous combination of zero interest rates and quantitative easing.

Before we were snorting the junk. Now we’re injecting it. And the high is causing market participants to take more dangerous risks than they should.

People jumping back into the housing market are in for a rude awakening as prices continue to fall and their equity evaporates. If house prices trend back up, it won’t be because people can pay more, it will be because credit markets have loosened up again and they can borrow more.

Then we’re back where we started, but with an even larger pile of unpayable debt.

The economy won’t be on a sound footing until debt levels fall, and that won’t happen as long as the Fed stands in the way. It should let its three quantitative easing programs expire on schedule, and make a firm commitment that they’re not coming back.


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So we should be watching not just the national debt but the amount that is privately held to see if and by how much it is going down before we can conclude that progress is being made. The savings rate is climbing (good) and the bankruptcy rate is as well (bad for those bankrupt, good for the elimination of debt)

What is wished for is more consumer spending when the consumer has nothing available to spend. The cash for clunkers program just bumps up public debt and private debt at the same time (gov’t make funds available to tip potential buyers into financing a new car).

So this gradual weeding out of debt is going to take an eternity!

Posted by CB | Report as abusive

The US is now in a liquidity trap, where a zero interest rate does not stimulate the economy. It is also doing quantitative easing to pay for the interest of past debts and to accumulate further debt. It will soon face a runaway compound interest trap where ever more creation of new money is needed to pay ever more accumulation of debt and interest. A runaway inflation of money supply controlled by exponential law.

That, my friend, is the next bubble being engineered. This way, the US intend to inflate away its debt at the price of financial destruction. And the destruction of foreign holdings US dollar as reserve. While that might ‘fix up’ the accounting problem, the value of the real economy is maintained, just that its monetary value will be dirt cheap. Typically when this happen everybody can buy a chunk of the US industry and real estate at a price of micro-cent on the dollar. But of course, this won’t happen. Because the US has a trump card – the military – to stop any and all such purchases. Everything will be declared of national security value. So the US can blow away its debt, and blow away its dollar (replace it with something new, like 1 million current dollar = 1 new dollar) and dare anybody do anything about it. It will be Zimbabwe with nukes.

Posted by The Real Deal | Report as abusive

We can’t face reality Rolfe, hasn’t been in our nature for 20 years.

Posted by Charlie Lefaux | Report as abusive

In the late 80’s a pie chart in the 1040 instruction book caught my attention. Still there, it describes the sources and expenditures of US Treasury funds including taxes. Not surprising was that Defense was the greatest spending portion.

What I found alarming at that time was that almost as large a piece of the pie went to service the public debt. My reasoning held that this burden would eventually be lifted if the US Treasury would simply STOP selling bonds.

This process never did stop, but during the Clinton administration it did slow down considerably. By the time Bush took office, that piece of the pie had been dramatically reduced along with the debt and deficit.

We now know the result of financing 2 wars to pump up that debt and deficit again. The meltdown on Wall Street last fall has by now been embraced by both Bush and Obama as an excuse to raid the treasury on behalf of the companies which caused the problem. Expect the DEBT piece of the US Expenditures pie to eclipse defense in your next 1040 book.

It has recently been reported that many companies receiving TARP have to paid out total bonus money in excess of their earnings. A substantial tax penalty (70% or better?) on these bonuses would net $Billions which could be used to buy back outstanding debt and discourage future feeding frenzies.

The remaining $Trillions in debt can be dispatched by the first rule of holes…”When you find you’re in one; stop digging.” Or as previously mentioned; this burden would eventually be lifted if the US Treasury would simply STOP selling bonds.

BTW–The replacement for the US Dollar is already in place. Google “Amero” to find out more. The Amero has been minted in Denver since 2006. And you can expect the day to come when your soon-to-be-worthless Dollars can be traded in for them at say 25%?

Posted by Pete Peterson | Report as abusive

[…] “The economy won’t be on a sound footing until debt levels fall, and that won’t happen as long as the Fed stands in the way.”  (Rolfe Winkler) […]

Posted by Sunday links: data mining disasters Abnormal Returns | Report as abusive

“Zimbabwe with nukes”,hahaha!
2.Gold-sky-high(just-like-Zimbabwe,$500, 000Zibabwe/gold-ounce)

Posted by Tomsk | Report as abusive

Why are we paying interest in fiat paper debt? That is madness!

The solution to our problems is to pay off our debt! The People’s Bailout: cancel our debt.

No debt means the real economy is saved!

Posted by Jubilee | Report as abusive

Yes, Tomsk, the resolution to this problem lies in violence. It stuns me that so few people realize that this is coming.

Posted by Russ | Report as abusive

Thank you thank you thank you Rolfe for saying so marvelously the things that some of us have been saying for years. Rational voices on the issue of leverage are few and far between anymore.

Posted by hariolor | Report as abusive

Excellent piece. The recession is going to be around for a long time, the Fed has assured us of that.

Posted by Curt | Report as abusive

I dion’t have much to add since the voice I have over these matters is small, and the large boot of government trods down all who criticise. Like a drunk driver with no police on duty the people running the system will continue until it won’t run any more. We can’t spend our way out of debt.

Posted by f belz | Report as abusive

We have gained net zero in private jobs in the last decade, and a recession with job loss recovery. The fed being stupid with money really spilled over to the public as well as state and local governments this time. I don’t think U.S. employers really want to hire Americans, things like health care are an expensive benefit to provide an employee, may as well keep outsourcing at breakneck speed until the government revenue stream can’t support the debt anymore, then just let her collapse. Raising taxes (and they will very soon), will only slow consumer spending further.

Posted by C | Report as abusive

The United States has no appetite for the lower standard of living that would result from the government living within its means, ie., spending no more than it takes in and not taxing the populace to the extent that the economic recovery cannot be achieved. Therefore, the only answer for a correction is default (which will be ten times more painful than a balanced budget). The ramifications would be worldwide and catostrophic. But as my wise mom told me about mowing the lawn, “You can do it now and be done in thirty minutes or wait until next week and it will take two hours because the grass will continue to grow even if you put it off” Unfortunately, we have let our lawn turn into a jungle and drastic corrective actions will be necessary.

Posted by Texas Independence | Report as abusive

As an ape, I watch with interest as you humans choose paths of self destruction. It appears that the despots have succeeded in spoiling you with their circuses and horses. I wait anxiously to clean up the mess that will be left when you finally finish destroying each other. I’d like to thank everyone who has made this opportunity possible. Most importantly… Shakespeare, The Founding Fathers, Kings everywhere, and all the gullible, stupid sheep that have so easily followed them into the abyss.

-Bye bye!

Posted by Cornelius | Report as abusive

[…] amazed to see that even Reuters and CNN realizes this is a rally built on cheap money provided by the Fed, just as the housing […]

Posted by The stock market rally is being inflated by easy Federal Reserve money | Les Jones | Report as abusive