Faisal Humayun's  Instablog

The chart below gives the FDIC deposit insurance fund reserve ratio till the third quarter of the current fiscal.


Chart Source: FDIC

However, the FDIC is still not out of trouble yet. There is a growing number of problem institutions as per the third quarter data. As of 30th September 2009, the number of problem institutions have gone up to 552. Problem institutions are typically banks which have a high probability of closing down. These 552 institutions have total assets of USD 346 billion. Thus, in the near future, one can expect the FDIC to keep borrowing from the Government. At the same time, the DIF insured deposit has been going up on a quarterly basis. The number below show the same.


Source:FDIC

Banks would however be very reluctant to lend and this would be a major headache for the Fed. In the current banking system, it is debt which creates a majority of the money in the system. When banks are not willing to lend, the Fed would have to keep flooding the system with money in the absence of money growth through debt.

Interesting Quote on the Banking Sector

Banking was conceived in inequity and was born in sin. The bankers own the earth. Take it away from them, but leave them the power to create deposits, and with the flick of the pen they will create enough deposits to buy it back again. However, take it away from them, and all the great fortunes like mine will disappear and they ought to disappear, for this would be a happier and better world to live in. But, if you wish to remain the slaves of bankers and pay the costs of your own slavery, let them continue to create deposits - Lord Josiah Stemp, Former Director of the Bank of England (1937)

The table below gives the duration of unemployment on an annual basis and monthly basis for the U.S.

Duration of Unemployment (Annual Basis)

Source: Fraser (Economic Indicators Oct,2009)


Duration of Unemployment (Monthly Basis)

Source: Fraser (Economic Indicators Oct,2009)

Another interesting data to observe in the general unemployment rate and the unemployment rate among full time workers. The chart below gives the data for the same.

Unemployment Rate Chart

Source: Fraser (Economic Indicators Oct,2009)

Also, when we are talking about consumption and spending, it is the younger generation who generally cares the least about savings and they generally end up spending most of their income. The chart below gives the rate of unemployment among people between 16-19 years of age.

Unemployment Rate among people below 20 yrs

Source: Fraser (Economic Indicators Oct,2009)

• The Government spending on infrastructure would take time to show its impact on the real economy in terms of job creation.

• The Government spending has been largely targeted towards consumption and not capital formation and boosting capital spending. This will not help in creating large number of jobs.

• The economic recovery has been largely lead by the Government sector. The private sector is still shrinking and job losses from private sector are not helping the unemployment numbers get any better.

• The policy of low interest rates has failed miserably as it has only lead to speculation in different asset classes. There is no lending and the already overleveraged consumer does not want to borrow.

I think the path to recovery is a relatively long and painful one for the U.S. But its is important that the Government stops targeting consumption and starts to lay more stress on capital spending and capital formation. Higher level of production and exports could help create significant number of jobs. I think it is time when the U.S gets back to hard work rather then living on debt and on subsidies (in the form of artificially lowered currencies) from the Asian countries.

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The second bulwark against deflation in the United States, and the one that will be the focus of my remarks today, is the Federal Reserve System itself. The Congress has given the Fed the responsibility of preserving price stability (among other objectives), which most definitely implies avoiding deflation as well as inflation.

The conclusion that deflation is always reversible under a fiat money system follows from basic
economic reasoning. A little parable may prove useful: Today an ounce of gold sells for $300, more or less. Now suppose that a modern alchemist solves his subject’s oldest problem by finding a way to produce unlimited amounts of new gold at essentially no cost. Moreover, his invention is widely publicized and scientifically verified, and he announces his intention to begin massive production of gold within days. What would happen to the price of gold? Presumably, the potentially unlimited supply of cheap gold would cause the market price of gold to plummet. Indeed, if the market for gold is to any degree efficient, the price of gold would collapse immediately after the announcement of the invention, before the alchemist had produced and marketed a single ounce of yellow metal.

Mr. Bernanke further goes on to say that:

What has this got to do with monetary policy? Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. Government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. Government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.

My observation on above Comments

At least here, Mr. Bernanke proves that he is a man who keeps his words. Since October 2007, Mr. Bernanke has been running the printing press he talked about in 2002 and has been successful to some extent in making the value of each Dollar go down. I must mention that he is not finished yet and he will do the same in the near future as well.

On the other hand we have U.S. Treasury Secretary Timothy Geithner who is talking about a strong Dollar policy. However, Mr. Bernanke had stated in 2002 that even by threatening to increase the number of Dollar in circulation, one can reduce the value. I think Geithner is trying something similar. Just by projecting that U.S. wants a strong Dollar, he is trying to lift sentiments on the Dollar to some extent.

I would also like to add here that money has three primary functions:

• It is a medium of exchange

• It is a store of value

• and It is a unit of account

Mr. Bernanke, by working overtime in his printing press has ensured that the Dollar is no longer a store of value and a unit of account. I would not be surprised if he wins a Noble Prize for trimming down the functions of money.

Second Formula for avoiding Deflation

Recently, the Fed announced that they would keep interest rates low for an "extended period". If we go back to Mr. Bernanke's speech in 2002, we would get some idea of the intention and objective the Fed is trying to achieve through this statement.


Below is an extract from the speech:

There are at least two ways of bringing down longer-term rates, which are complementary and could be employed separately or in combination. One approach, similar to an action taken in the past couple of years by the Bank of Japan, would be for the Fed to commit to holding the overnight rate at zero for some specified period. Because long-term interest rates represent averages of current and expected future short-term rates, plus a term premium, a commitment to keep short-term rates at zero for some time--if it were credible--would induce a decline in longer-term rates. A more direct method, which I personally prefer, would be for the Fed to begin announcing explicit ceilings for yields on longer-maturity Treasury debt (say, bonds maturing within the next two years).

My Views on this Statement

The Fed has already announced its genuine intentions of keeping interest rates low for a long period. However, Mr. Bernanke likes the second option more then the first. Thus, it would not be surprising to see him implement this policy in the future as well. If the yields on the longer term treasury bonds keep going up (as it has been since December even after debt monetization), then the Fed might fix a upper ceiling for the rates. This would obviously lead to a sell off in the bonds but the Fed is there to buy the bonds and keep the rates fixed at the levels it wants it to be at.

This move would be targeting flooding the markets with Dollars again as the Fed would buy up the bonds and print some more money to pay for that purchase. This, according to Mr. Bernanke should help in preventing deflation and re-start the spending spree (the fall in which lead to deflation).

However, the manipulative ideas and strategies don't end here. The next one is a big of a shocker.

Third Formula to avoid deflation:

To repeat, I suspect that operating on rates on longer-term Treasuries would provide sufficient leverage for the Fed to achieve its goals in most plausible scenarios. If lowering yields on longer-dated Treasury securities proved insufficient to restart spending, however, the Fed might next consider attempting to influence directly the yields on privately issued securities.

Thus, the Fed has the power or potential to manipulate privately issued debt securities. At zero interest rates, by giving banks the money, the Fed can purchase private bonds impacting or lowering their yields. Besides making them unattractive, the Fed can also inject more money into the system by this method.

I have no evidence to prove that the Fed is doing this already. But it can't be ruled out as Mr. Bernanke has taken this speech of his seriously and has already implemented some of the measures talked about in the speech.

So, with the power to print any amount of money, the Fed can manipulate or at least try to manipulate many asset classes. I am not sure what this will lead to in the long term. But it surely will not have positive effects. There are discussions and debates for more regulation in the financial system. In my opinion, in order to prevent a disaster, one needs to regulate the Fed. There is an urgent need of more disclosure from the Fed in terms of their policies and actions.

If this is not done then Mr. Bernanke can prove to be a lethal weapon for the Dollar and also for further problems in the U.S. economy. President Obama, by giving Bernanke another four years has ensured that he tries everything he has talked about in this speech and maybe something more.