The Fed's Money Printing Nirvana

Includes: DIA, QQQ, SPY, UDN, UUP
by: Economic Disconnect


Yesterday had all the drama of watching paint dry. A basic rerun of the same statement from the last meeting, though the Fed did leave out the actual term "deflation" so as not to scare anyone. As usual, the real fun is in the stories that are run after the statement and yesterday was no exception.

Consider this AP story (via Yahoo Finance) which opens with an absurd jump of logic, but of course just leaves it on the table as is [emphases mine]:

Fed says recession easing, inflation is tame
WASHINGTON (AP) -- The Federal Reserve signaled Wednesday that the weak economy likely will keep prices in check despite growing concerns that the trillions it's pumping into the financial system will ignite inflation.
Fed Chairman Ben Bernanke and his colleagues held a key bank lending rate at a record low of between zero and 0.25 percent. And they pledged again to keep it there for "an extended period" to help brace the economy.
The Fed is sending the message that the economy is making progress toward a path of recovery, that the credit markets appear to be healing and inflation is not going to be a problem," said economist Lynn Reaser, vice president of the National Association for Business Economics. "The bogeyman of deflation also was removed from the Fed's primary risk list," she added.
The Fed in March launched a $1.2 trillion effort to drive down interest rates to try to revive lending and get Americans to spend more freely again. It said it would spend up to $300 billion to buy long-term government bonds over six months and boost its purchases of mortgage securities. So far, the Fed has bought about $177.5 billion in Treasury bonds.
The Fed is on track to buy up to $1.25 trillion worth of securities issued by Fannie Mae and Freddie Mac by the end of this year. Nearly $456 billion worth of those securities have been purchased.

There is a lot of stuff here, so lets start with the smaller items:

  • The Fed has made it clear that a rate hike is off the table. I will now accept apologies form all those saying the Fed would be raising rates in August. You were all dreamers and you are all now proven wrong. The rates will be zero for an "extended" period of time. So unless you cannot read, that means ZIRP just got treated with ExtenZe and so knock off the "rate hike" and "exit strategy" talk.
  • The Fed is truly all powerful as both inflation and deflation were pronounced dead as of yesterday by the Fed. They only said that inflation was "well contained" (uh oh!) and they did not bother to even mention deflation (uh oh!). The Fed has engineered a perfect outcome and one they are in total control of (if you read just this article, that is).

Money Printing Nirvana

My last point is the major one. Reread that first line:

...the weak economy likely will keep prices in check despite growing concerns that the trillions it's pumping into the financial system will ignite inflation.

The Fed feels that because wages are static or going lower and the price of an Xbox is static or going lower, they can create money unabated with no consequence.

Now, you might say "all that money is not going into new credit, hence there is no velocity of money, thus no inflation as it can only cover debt destruction." And of course, you are correct and the next step is deflation.

To this I would ask:

  • If wages could be kept low (by economic factors or edict)?
  • If consumer prices could be kept low (by lack of demand or edict)?
  • If banks will not lend out money, but instead use it to write off debt (this may well be what is going on)?

Then would it not be nirvana to simply print enough money to cover all debt, call it "canceled out" by all the new paper, and start all over again?

Indeed, this seems so devilishly simple I would wonder why every nation in the history of the world has not had this as their economic centerpiece.

And I think this leads me to my "inflation" predisposition. You may define inflation as an increase in the money supply, but I could define it as de facto devaluation. If the US prints say 10 trillion dollars to absorb mortgage losses, credit card losses, commercial real estate losses and other losses not yet known then yes, that money never enters the money supply as new capital.

But it was used to pay for the debt that was taken on and could not be paid back in real money. As a creditor you just got paid back with printed money that came from nowhere.

At this point the currency has no moorings in reality (not that it does now, but if kept as a slow process the world accepts this as a cost of doing business) and thus any creditor will want either MORE of the dollars, or they will not want them at all and demand payment by other means.

This is the danger of the "printing press", not hyperinflation because of a sea of money, but inflation due to limited desire for a particular money or a lack of belief in a particular money form.

Now I understand that because this has not happened as of yet to the US, nor in its history, many think this will never happen. I also have respect for the "other currencies are worse off, so the dollar will always be strong" argument for what it attempts to imply.

It reminds me of the old line:

When you owe the bank $100 that is YOUR problem; When you owe the bank 100 million it is the BANK'S problem.

(Aside: this joke needs to be corrected for today's dollars!)

The US owes so much money that indeed it is in the best interests of most of our creditors to play pretend and allow the US to do what it is doing with the money creation. I have discussed the possibility of a debt "Chandrasekhar limit" many times. I think we finally get an answer to that question.