Thursday, November 4, 2010

Quantative Easing

The November 4, 2010 Financial Times reports on an emerging backlash against the Federal Reserve's plan for "quantative easing" which is essentially a plan to inflate the money supply to restore the economy.  Okay, I understand their desire, and their fear of deflation.  But once you get started down that path, it is not easy to get the horses back in the barn.  Of course, economists at the Fed have such a great recent history on handling economic decisions, don't they?

I've been doing some data analysis on Treasury yield curves in recent decades, in the hopes of making sensible investment decisions--and the data absolutely shocks and terrifies me.  I'll be writing an article based on it shortly.  In the meantime, remember the only great line from The Fly remake with Jeff Goldblum.  "Be afraid.  Be very afraid."


  1. Here's something if you're worried about genuine hyperinflation.

    I recently came across an item that says it tends to happen some time after measures like QE and QE2 increase the money supply, since those tend to happen in times when the velocity of money is low (which is why they or rather their lack of immediate results are often called "pushing on a string").

    If something shatters confidence in the government (generally a few years later), the velocity of money can skyrocket semi-instantly and now you have a problem, one that's hard for a central bank to fix.

    The Weimar hyperinflation was said to be one of these, with the French and Belgian occupation of the Ruhr being one of the trigger points.

  2. There is some risk of hyperinflation, but only with a collapse in confidence. We're not quite there yet, but a prolonged period of stagflation could deliver that blow.

    I can see why Bernanke is doing this, but it's very, very dangerous. The US may need the expansion to prevent deflation since one of our big problems is sticky debts and right now the banks are insolvent by old mark-to-market rules. Inflating the money supply cheapens the value of old debts and bonds, thus taking from the savers to save the debtors. It's a cheap way to bypass the politically difficult desire to bail out the banks again.

    But we're an 800-lb gorilla in the world system and the rest of the world is being hammered by this.

    Why is the world at risk? We're expanding our monetary base and lowering yields. That generally means that capital will be flowing out of the US looking for better returns. That means the EU and 3rd world. If they don't do similar QE then their currencies will rise and their exports to the US will fall and that means trouble for their economies, but if they do QE then their already high inflation could go blistering and they'll watch commodities go through the roof.

    If they do accept the capital, then inflation will rise in their countries with more money in circulation. But inflation and asset bubbles already exist in places like Brazil and China.

    Refusing to accept the capital is hard for those countries. They can't raise interest rates to stop their inflation simply because the carry trade would seek their bonds for better returns. And they can't put tariffs in place or the US will retaliate (China's already in the US doghouse for it's barriers now and increasing them will provide political cover), which would be good for US workers since the trade deficit is really hurting them.

    You can see how angry the Asian countries that make their living exporting to the US are about this. It's essentially the US replying to China's currency manipulations in a very aggressive fashion that would be impossible if the US wasn't the reserve currency and 25% of the global economy. We had a narrow window to take advantage of the situation before China manages to shuffle the deck and remove the US as reserve currency and Bernanke's taking it.

    Not that I'm happy about it. We're dancing with nitro in our hands and we'd better Bernanke has better hands than Randy Moss.

    We live in interesting times and Bernanke is killing anyone in bonds or other fixed income assets.

  3. It's ugly out there.

    Bernanke is expanding the money supply to bail out debtors like the banks and prevent deflation, but killing cash rich folks and bond holders.

    But he's also hammering those countries that export to the US like China, who either have to also import more money and inflation into their already overheated economies or watch their exports to the US.

    The reaction of the Asian exporting countries is telling and they're not happy at all. Check out for some of the reactions this is generating.