Co-written by Patrick Kirts
I don't quite remember when, sometime in the past year, I first began hearing average people say that the government ultimately has the power to fix the economy, because it can just 'print money,' but, in a few short months, the sentiment has become commonplace. It boggles the mind, but it now seems to be a truth commonly accepted by just about everyone--politicians, journalists, investors--even the man in the street. At Portfolio Asset Management this change in sentiment has altered part of our investing strategy. Gold is now back on the menu along with shorting treasuries. Alternative assets have gone to the top of our list of potential funds and the bond funds we hold are under tremendous scrutiny. The bottom line is that we are under fire--not by the market itself, but by the government policy of debasing the currency. Few are vigilant and the delay in the market reacting to the changes may take time. Meaning, some sound strategies may not work even though a rational investor would say otherwise.
Last Wednesday, the Fed announced that it would buy $1.2 trillion in new assets--$300 billion of which would be Treasuries, the rest mortgage-backed securities, or, well... we don't really know quite what. The term that's gaining currency (no pun intended!) to describe this phenomenon is 'quantitative easing.' It happens when a central bank has lowered interest rates so low that the only way to continue pumping money into the market is to create it out of thin air. In an age when most dollars are simply credits and debits in electronic accounts, you don't need a printing press to print money. The dollar has begun to lose its value, and the heads of other countries are now speaking publicly about abandoning it as the world's reserve currency.
A centerpiece of George Orwell's classic novel 1984 is the degradation of language for political purposes. When the meanings of words are corrupted, the populace loses its ability to think effectively, and discourse becomes a charade. It was a staple of fascist and communist regimes, and Orwell called it Newspeak, and his examples are hyperbolic: for instance, 'love' comes to actually mean 'hate.' We aren't facing anything so overt, but our political discourse is suffering from the same corruption of meaning.
What, really, is 'quantitative easing'? What, for that matter, does it mean to 'print money'? From time to time, people have been caught in schemes where they manufactured fake currency. We must assume that there have even been times when people have done this successfully--they haven't been caught. We all immediately recognize this as a gross injustice. Not only is it morally offensive--people should work for their money, but, if done in large enough quantities, it distorts prices. A sudden increase in the number of dollars in the market must, once market actors realize that there are more units of money in circulation, have an impact on prices. This is the reason that counterfeiting is such a serious crime--it is fraud, and not fraud committed against a single person or group, but against everyone in society. Successful counterfeiting negatively impacts the real buying power of everyone in the market except for the counterfeiter.
So why is it not counterfeiting when the government itself does it--and does it on a scale far greater than any private criminal ever could? We have allowed our language to be degraded. A host of new terms has been invented. 'Quantitative easing' is a deliberately meaningless phrase, intended to distract and mislead. Its purpose is to make you forget to think about what is actually occurring. Could you imagine what the result would be if our political discourse proceeded meaningfully? Imagine if President Obama got up in front of the American people (or Bernanke or Geithner in front of Congress) and said something like this:
'We are in a great financial crisis. For the past decade, Wall Street has been gorging on dollars that the Federal Government has counterfeited for them. Since everyone in the market has begun to recognize this, the market is adjusting. This adjustment has threatened many firms that are deeply embedded in the government itself. Thus, it is politically unfeasible to become honest. The United States must therefore continue printing money.'
The truth hurts, and any kind of honesty or meaningful discourse about where we are and how we've gotten there would interrupt the devil's dance between New York and Washington (and, to be fair, London, and Frankfurt, and Dubai, and Hong Kong, and Tokyo...). Barack Obama seems to think that the problem with the market is that its participants have lost confidence, and in a sense he's right. What he misses is that confidence is something that cannot be faked, and more Newspeak cannot restore trust.