Each time we begin to approach the end of an announced QE
period, the nervous jitters of financial markets start to set in. Will
Bernanke continue with QE(n+1) or won’t he? Now it’s true that
professional traders live and die by their ability to front run rumor
and perception, but for long term investors who fret over such
decisions, it demonstrates a fundamental lack of understanding of what
QE really is. To put it succinctly, QE is an economic deal with the
Devil. Once it is begun in earnest there can be no turning back. It
must be played to its ultimate conclusion.
In Bernanke’s 2009 interview on
60 Minutes, he suffered a momentary lapse into honesty and stated that
Quantitative Easing was effectively money printing. So why then the
complicated euphemism of Quantitative Easing? Because that is what
modern central banking sponsored economics is all about – the
intentional obfuscation of otherwise simple economic principles to cause
the eyes of normal people to glaze over. Once accomplished, the
central bankers (and their financial community brethren) are able to
pursue policies that greatly benefit themselves but are devastating to
Long term investors who worry about whether QE will continue clearly recognize the fact that everything is now correlated to the Fed’s balance sheet.
What they don’t understand is how QE is related to the larger economic
cycle and its mission of preventing economic recessions.
Keeping the tent inflated
Sometimes physical analogies are the most helpful in understanding
complex relationships. Let’s think of the economy as a large inflated
tent. The extent of the tent’s inflation is the health of the economy.
Under normal economic conditions the tent is fully inflated. In the
course of time, events take place that cause the need for a correction
to the economic system. New technology can come along which obsoletes
old industries, bad investments and debt must be liquidated etc. When
this happens a free market economy will correct itself. Capital tied up
in failed industries will be reallocated and invested in new
businesses. New jobs will ultimately be created and people will go back
to work. Of course this reorganization takes place over time and this
is what a recession is – a healing process for the economy. In our tent
we can think of this as a tear that forms in the fabric. While this
hole is being repaired, air escapes and the tent begins to sag a little.
The extent of the drooping is the extent of the recession. Once
fixed, the tent and the economy go back to normal.
QE is a wholly different method of keeping the tent propped up. It
does not repair the hole, but rather attempts to keep the tent inflated
by pumping more air in than is escaping through the hole. This is the
new money being created and pushed into the economy to offset the credit
destruction in the banking system. This is a dynamic process that must
be maintained. The catch is that the hole doesn’t just stay a fixed
size. The tear begins to lengthen allowing greater amounts of air to
escape. The economic tent begins to sag until the volume of air being
pumped in is increased to overcome the outflow. This is why QE can
never end. To stop now, with such a large hole, would result in a
severe and frightening recession. The tent would lose a tremendous
amount of air in the time it takes to make such an extensive repair.
This process continues until eventually the hole is so large that the
tent collapses around the massive flow of pumping air. This is the
ultimate fate of money printing as policy – a currency crisis – the
endless flow of new money loses purchasing power faster than it can be
created. We are left with an inflationary depression in which savings
are decimated and the standard of living of most Americans is
QE is economic central planning
When an institution such as the Federal Reserve is allowed to create
as much money as it wants and do with it whatever it pleases, without
any oversight or transparency, then the free market and its self
correcting mechanisms no longer exist. How can capital from failed
business and banks be reallocated to more efficient uses when these
institutions are bailed out and not allowed to fail? Prices and
interest rates are the nervous system of a free market economy. They
are the feedback mechanisms that direct all of the individual
participants to behave in the most productive and efficient manner.
There can no free market when prices and interest rates are de-linked
from supply and demand. We are now a centrally planned economy run by
our central bank.
But here’s the really insidious part of QE that almost no one in the
general public understands: A free society cannot exist independent of
free markets. There is a disequilibrium that occurs between the two and
over time one will win out over the other. And so here we are, stuck in
a decaying economic system that prevents resources from being used in
their most efficient manner. We simply can no longer compete with freer
markets in other parts of the globe. We are saddled with the weight of
central economic planning much like the old Soviet Union was. There
will be no recovery and no rush of new jobs created. We will live under
the burden of a burgeoning Federal government that operates completely
independent of the will of its citizens. It is now beholden only the
money manufacturers at the Federal Reserve and will spend money as fast
as Bernanke can add zeros to its account.
The problems we are experiencing have been a long time in the making.
They began in earnest in 1913 with the formation of the Federal
Reserve. It’s taken several generations for the Federal government and
its central bank to usurp the world’s monetary system and as such few
have noticed. But what’s different now is that we have hit the knee in
the curve, the point at which events start to accelerate dramatically as
we approach the end of the line. Those who understand QE realize that
America as we knew it is already gone. Over the next decade the rest of
America will become painfully aware of that fact as well.