Guest Post: QE2 Will Sink Us

Tyler Durden's picture

Submitted by Gonzalo Lira

QE2 Will Sink Us

Ben Bernanke and the Federal Reserve are preparing for QE2—a second round of Quantitative Easing.

rationale is that the United States’ economy is circling the
deflationary drain—something Bernanke and the Fed are absolutely
terrified of. Certainly deflation is hitting the U.S. economy full bore,
but it’s yet to be proven that this deflationary trough has twisted
itself into a self-reinforcing vicious cycle. I would argue that the
chances of the U.S. economy twisting into a deflationary death spiral
has yet to be made. But be that as it may, it doesn’t matter if the
economy is in a deflationary death spiral—Bernanke and Co. think that that’s the imminent danger. And they're the ones with their finger on The Big Red Money-Making Button.

people are claiming that the first version of QE was not enough. Like
Paul Krugman whining that the stimulus package wasn’t big enough to
restart aggregate demand, the aggregate asset crowd—the monetarists—are
bitching that Bernanke didn’t really open the monetary flood gates with
the first version of QE.

These people conveniently forget that the Fed more than doubled its balance sheet, in order to carry out QE v.1.0. This interactive chart
tells that story better than words can—from less than a trillion
dollars, to $2.2 trillion in under 60 days. Clearly, Bernanke now owns
the land speed record for monetary expansion. And to any talk that
Bernanke is contracting the Fed balance sheet too quickly, let’s just
say that a shrinkage of less than $30 billion from a peak of $2.333
trillion is not exactly “drastically reducing” the balance sheet.

with all that liquidity the Fed has been making available, the banks
aren’t lending—they’re too weak to lend, their balance sheets too
precarious. So banks are hoarding their cash (or carrying out the
Treasury’s stealth monetization program). So asset prices are falling
(even with over a trillion dollars’ worth of MBS’s shovelled onto the
Fed’s balance sheet). So deflation. So monetarists are freaking out: And
the Fed is dominated by monetarists.


QE2—another go-around of massive monetary expansion, to both prop up
asset prices, and prevent a (supposed) deflationary death spiral. And
Benny’s not gonna screw around: If Bernanke does a for-real QE2—a
no-fucking-around, damn-the-torpedoes, full-steam-ahead! quantiative
easing—he’ll expand the Fed’s balance sheet from $2.3 trillion to at
least $4 trillion, if not $4.5 trillion.


is my fearless prediction: If Bernanke does QE2 for-real (which is not a
sure thing yet, but likely), then this monetary expansion will become
the hyperinflationary kindling—but not the spark.


spark will come from someone selling a big position in Treasuries. The
obvious culprit could be China. China’s economy is tanking—and China has
a whole lot of Treasuries, which they will need to dump so that Beijing
can prop up its own asset bubble. China’s the likely candidate, but
hell, it could be Bill Gross.
Regardless: The
Fed has been buying up mortgage backed securities from the Too Big To
Fail banks, in order to bail out the banks. The TBTF banks have in turn
used the cash to soak up all those Treasuries the U.S. Government has
been emitting to finance its stimulus spending. China’s sale of
Treasuries—to prop up its homegrown asset bubble—will need to be
purchased by someone: The U.S. cannot allow its debt to tank.


QE2, stage right: QE2 will be used to prop up Treasuries—and this will
spook the markets. People will realize that Treasuries are as vulnerable
as Greek euro-bonds—which they are, of course. So people will want to
get out of Treasuries.


So the Fed will be
forced to defend Treasuries—with QE2 cash. Instead of buying up mortgage
backed securities, they’ll be forced to buy Treasuries. It’ll be 2008,
only Treasuries tanking, rather than MBS’s.


will light the hyperinflationary fire. People will lose faith in the
dollar, and try to get out of it—at all costs, all at once. As I've
written in other posts, hyperinflation is not the economy overheating,
like regular inflation—hyperinflation is when nobody wants to be caught
dead with a currency.
This is how deflation
will trip over into hyperinflation. And this will happen within 24
months, perhaps as soon as this coming autumn. And even if QE2—by some
miracle—does not bring about hyperinflation, then in 18 months or so,
Bernanke and the Fed will do QE3: Their rationale will be that they did
it “successfully” with QE in 2008 and QE2 in 2010, so why not QE3 in the
fall of 2012?


If your only tool is a hammer,
then every problem looks like a nail. Bernanke and the Fed will bring
about hyperinflation—obviously. They are so irrationally terrified of
deflation—and they are so committed to defending aggregate asset prices,
regardless of what it takes—and since their only real power is monetary
expansion—that they will let loose the QE spigot until they break the
back of the Demon Deflation. And in their zeal, they will kill the U.S.


But hey, I’m probably wrong. BTW,
that gold necklace you’re wearing—you wouldn’t be interested in selling
it, now would you? I got me some freshly minted dollars . . .

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Turd Ferguson's picture

TD, please re-insert your picture of the deer in the headlights. 

Timmy and Benny won't announce anything new or unusual today. They know that they are at the end and are terrified to do anything. No QE2 (yet). Not today.

Turd Ferguson's picture

we'll see but, if I'm right, please re-post the picture as it would be the only plausible explanation as to why they did nothing.

doomandbloom's picture

probably they expect war soon...which is why they will not do anything..that will sort everything out.

Oh regional Indian's picture


I believe this to be the case of also. And it is true not only for this strange behaviour in finance. Here in India, they are selling things with such poor after sales service, that it makes me suspect that they know they will not need to service them much longer. Everything is being built with poor materials, like it is okay for it to have a short life-span.

And GOM is a classic example of in-your-face-ness.

And this line, is a classic...

If your only tool is a hammer, then every problem looks like a nail.



Tense INDIAN's picture

Tyler, whats ur favourite...QE or not QE

Tyler Durden's picture

irrelevant. it is lose lose. no QE means deflation. yes QE means commodity price explosion and plunging margins.

scratch_and_sniff's picture

Whos trading what and why at 7:15BST??? Answers on a postcard... you could even write them here and it would save you all a whole lot of trouble.

Noah Vail's picture

Gonzalo Lira, writer and film maker? Uhm, what are his qualifications for this prediction Tyler? I mean, don't we deserve a little credibility here?

sangell's picture

You in the Fed camp that only PH.D's in economics have the capability to understand complex issues?

I think Gonzalo Lira's articles have been about the most astute I seen. He nicely summarizes the issues and opposing camps and makes a convincing case for his conclusions.

Keep on posting G.L. even if you're doing it in your pajamas from Santiago.

Gonzalo Lira's picture

Thank you. 

And FYI—I'm writing from my air-conditioned dungeon in Abu Dhabi, which I built out of solid 420 oz. gold bricks, smoking the finest Thai stick while typing, completely naked . . . except for my cock-ring. 

RichardENixon's picture

No wonder your article makes so much sense.

Lux Fiat's picture

Ok, that really was TMI.  But love the articles, however they are written/inspired. 

"hyperinflation is when nobody wants to be caught dead with a currency" - about the best, pithy explanation I've seen, ever.

Cognitive Dissonance's picture

I've downloaded a dozen different "deer in the headlights" photos ready to be posted once the call goes out.

docj's picture

Bring on the "sink".

augmister's picture

You really mean bring on the "suck"....

economessed's picture

QE = lead swim fins.  Functionally intended to help us survive in an ocean of debt, but executed in such a way that hastens the inevitable.


bugs_'s picture

In this context, who is "Us"?

I know it will sink me, a lot of people I know - but will it sink "them"?

doggis's picture

who says deflation is bad. please tell me that paying down debts or defaulting and flushing debt out of the system is bad. deflation is like giving the labour force a big fat raise, and which of us would turn down a big fat raise. the big banks on the other hand - it is a death sentence. so once again, the interests of the tbtf will be the only focus for the fed corrupt.


Ragnarok's picture

Our money is Debt! To destroy debt is to destroy our money, and without money moving through the money changers hands they can't skim off interest or increase the amount of fractional money they have in the system.


So to summarize deflation is very, very bad to TPTB because they cannot accumulate vast wealth of the productivity of others.

kaiserhoff's picture

Essentially true, but let's keep the context.  This whole thing is a side show.  There is nothing inherently bad about a depression or hyperinflation.  Either could be the cure to an otherwise incurable disease.

The problem is that government and health care have grown too large to be supported by the real economy.  How do we restore that balance?  Without some major financial shock and a reset of all prices, I don't think it can be done.  As you point out, the thugs in Washington won't even try.

Be of good cheer.  One way or another our side is about to win a few rounds.  Ponzis always collapse of their own weight.  As to the trigger I agree with Joseph Conrad.  "The unexpected always happens."





honestann's picture

Seems that only a few of us have been screaming DEFLATION IS WONDERFUL.  And, in fact, deflation is utterly NATURAL, as people learn more efficient ways to produce goods, and as computers and robotics perform more and more processes faster, better and cheaper than humans can.

Yup, deflation simply means "you can buy more for your money".  That is GOOD.

Now it is true that no matter WHAT changes, there are some people in a situation that the change makes worse for them (if they are stubborn).  For example, if machines are getting better at doing your job, your salary will eventually fall [faster than general prices], lowering your standard of living.  If you're stubborn and irrational, you bitch, moan... and suffer.  If you're realistic and rational, you look at current trends, then switch to some new productive activity that is more efficient.

Really, only the self-serving LIARs say "deflation is bad" (FederalReserve, government, mainstream parrots).  The ONLY reason the predators-that-be class say "deflation is bad" is because the fed IS a cartel of banksters, and they will do ANYTHING WHATSOEVER to make their current banking paradigms pay off, no matter how much it harms everyone else.  For the FederalReserve to pretend they are looking out for "the economy" or "the people" or anything but their own dishonest criminal scams - is a total lie, and the fraud of the century.

Rogerwilco's picture


There is an ugly side to deflation, and that is its marginal effects on lending and investment. What rational lender or investor would hand over money if they believed asset prices will be lower a month, a quarter, or a year from now? This is what keeps Bernanke awake at night.

A complete melt-down and debt wipe out would clear the system, but a slow, grinding, deflationary death spiral is a torture no sane person wants to experience.

gabadoo's picture

So why do some continue to invest in innovative companies like Apple? Is the plant, and machinery used to manufacture products ( all depreciating, deflating assets ) not worth the yield? I think continuous lending for malinvestment is the key. Out govt does this all too well.

Rogerwilco's picture


I specifically used the term "marginal". AAPL is not a marginal performer, and it doesn't sit at the margins of lending and finance. Its access to funding is not in jeopardy. I was thinking about the smaller companies, banks and investors, they are the ones that would suffer from the effects of a deflationary environment. There are many more of them in the economy that the AAPLs, BACs, or GEs.

ElvisDog's picture

The most consistently prosperous time in U.S. history, in the 19th century, was during a time of more or less continuous deflation. Deflation has one great benefit, and that is you know your money will hold (or gain) its value over time. It makes it very difficult to plan for your retirement if you don't know what money will be worth when you retire.

DavidC's picture

Spot on.

Chris Martenson has also pointed out that for over 100 years in the USA (I forget the exact period but I think it was from the 1700s to mid 1800s) it was possible to put $100 in a container, pass it on to one's heirs and it would still have $100 purchasing power.

Not something the Fed's been able to do since 1913...


Rogerwilco's picture

"The most consistently prosperous time in U.S. history, in the 19th century, was during a time of more or less continuous deflation."

Sorry Elvis, that dog don't hunt. The 1800s saw many boom and bust cycles punctuated by depressions and massive bank failures. Oh yeah, we also had a minor hiccup called the Civil War. It was a period of industrialization, and some fabulous fortunes were created, but one could hardly characterize it as a century of general prosperity.

tmosley's picture

So...the emergence of the middle class wasn't a sign of prosperity?

Your thinking is dangerously twisted.  Booms and busts in the 1800's in the US weren't nearly as large or scary as they have been over the last century.  The average length of a non-central bank or fiatsco-printing related bust was something like 6 months.  The damage that Lincoln's printing during the Civil War lasted for 20-odd years, but it was no-where near as destructive as the Great Depression.

SteveNYC's picture

That's what "leverage/asset price ratios" are for. If we are deflating, I'll lend you 60% of the price of your home, instead of 90% and so on.

MachoMan's picture

You present the ugly side of deflation as a lack of willingness to lend money?  Seriously?  You gotta think bigger than that.  As governments of all sized in the US deleverage, who fills the power vacuum?  Who has control of the resources to facilitate cannibalization of power?  You gotta think about the end game...

a decreased willingness to lend is already here...  whether it be between banks or from banks to end consumers.  Further, even if all the money in the world was offered, people don't want to nibble...  who gives a shit.  Lending an investment are largely dead with the collapse of credit (and cannot be shock paddled alive)...  pick a new boogey man. 

RockyRacoon's picture

Funny, I thought that lending money was the problem... not the solution.

I'm with ya on this one.

tmosley's picture

Prior to the creation of the Federal Reserve, there was a seemingly irreversible trend in American business toward financing capital projects using PROFITS rather than loans.  Indeed, the bankers feared this trend so much that they risked treason charges to create the banking syndicate.

There is no ugly side to deflation--it only starves the unproductive (bankers, financiers).  Imagine how rich the world would be today if all of the money that ever went toward paying interest was instead invested in capital projects.

honestann's picture


Yup, exactly so.

Furthermore, just imagine your decision making process when you decide to develop or expand a business --- or not --- when the investment comes out of already-earned profits AKA "your own physical gold in your safe".  Yup, when someone is risking his life savings, he thinks very carefully first... and searches for the best opportunities he can find.  Today, when most or all inventment is borrowed, the attitude is more like, "let's give it a shot".  They know the lender loses when the endeavor fails.

This is another reason the HUGEST mistake ever was to legalize general purpose "fictitious entities" (corporations), then keep expanding their powers until today they have vastly more legal power and influence than REAL entities.

LePetomane's picture

Deflation affects the public sector most because their revenues are based on economic activity (sales tax) and asset values (property tax).  In short, deflation affects government's ability to make payroll.

MachoMan's picture

Bingo.  This is the hyperinflationary collapse you're looking for...  not the one where benron attempts to print us into some magical paradise.

Hansel's picture

Deflation is an untaxable increase in the standard of living of the people.  Therefore, it can't be allowed to happen.

augmister's picture

The Banks ALWAYS Win, wash, rinse, repeat...  The Banks ALWAYS Wins....

tmosley's picture

Until WE kill them.  Literally or figuratively.  I'll take either at this point.


Pegasus Muse's picture

Good stuff Gonzalo. Agree.

Duck's picture

This is the sort of junk that people who don't understand basic accounting identities write.

China cannot sell its dollar holdings without simultaneously eliminating its trade deficit with the U.S.

China's policy of export led growth (to U.S. consumers) depends on accumulating dollar assets.  No other way about it.

See Michael Pettis blog if you want to understand these undeniable principles, which debunk junk like this on the blogoshpere.

tmosley's picture

Here's a hint--you can't grow your economy simply by trading your goods and services for little pieces of paper.  They tried this in "It's Always Sunny in Philadelphia", with predictable results.

Their economy has grown, but not because they have been giving crap away for free to the US.  It is because they have liberalized their economic policies.  If the US can't afford their stuff any more, they can simply take it and dump it in the ocean and bring back little strips of paper for their reserves.  The effect is the same, so long as China sits on those reserves.

Of course, they won't do that forever, and they likely never planned to.  They will simply wind up either buying everything that isn't nailed down in this country, or attempt to corner multiple commodities markets at once.  The latter seems more likely, and they are already making steps in that direction.

FranSix's picture

Japanese QE2(a while ago now) didn't sink the Yen, nor did it dissuade the Chinese from lately  abandoning Yuan denominated assets for Yen-denominated assets.

I get the feeling that Yuan convertibility is having problems, so when they're done swapping Yuan for Yen, they'll swap Yuan for dollars.

I think the dollar is on a final down wave (e) on a very long term trend started in 1985. require membership)$XJY:$USD&p=M&st=1980-01-01&en=(today)&id=p26579836264&a=181133547&listNum=2

tmosley's picture

Shooting yourself in the foot isn't always fatal, either.  The difference is, the US is an enormously fat diabetic.  The leg is going to have to come off.

realtick's picture

"if the stock market continues higher it will do more to stimulate the economy than any other measure we have discussed here."


Sancho Ponzi's picture

"if the stock market continues higher it will do more to protect the wealth of high net worth individuals than any other measure we have discussed here"

Internet Tough Guy's picture

Define "us".

Everyone thinks they will survive; goldbugs; banksters; Prechterites; Bill Gross bondbuyers. Someone is going to get killed.