Guest Post: Sorry, Fed And People's Bank of China: You Can't Have It Both Ways

Tyler Durden's picture

Submitted by Charles Hugh Smith from Of Two Minds

Sorry, Fed and People's Bank of China: You Can't Have It Both Ways

My thoughts are with those trying to contain the nuclear reactor crisis in Japan, and with their families, who are justifiably worried about the health consequences their loved ones risk as they work long hours in hazardous and difficult conditions.

You can't have it both ways, but that isn't stopping the Fed and the PBOC from continuing their doomed policies.

The Federal Reserve and the People's Bank of China are each trying to have it both ways: they want rapid growth in money supply, lending and the economy but no troublesome jumps in the price of essentials. Yet the rapid expansion of money supply and credit feeds volatile price increases and politically disruptive income inequality.

While the world watches and hopes the reactor containment structures in Japan hold, whatever the aftermath of this deepening nuclear crisis, we will be living in a world defined by the financial policies of the Federal Reserve and the People's Bank of China.

Frequent contributor Harun I. neatly summarized the problem with Fed Chairman Ben Bernanke's explanation for why the Fed's policies had nothing to do with skyrocketing global commodity prices:

What I find troubling about Bernanke these days is his overt dissembling. Before congress he says that the recovery, not money printing is causing a rather destabilizing spike in commodity prices. Looking for evidence in nominal price charts, there is none to be found. What he is trying to make us believe that from 1982 to 1998 (the great equity bull market) there was not enough demand to drive crude oil prices where they are today. Hmm.

At any rate he can not have it both ways. He cannot claim that he needs to print money to spur "acceptable inflation" (which effectively raises prices) while claiming that money printing has nothing to do with rises prices.

Thank you, Harun.

The Fed is being disingenuous in claiming it is blameless for global inflation: the Fed's zero-interest rate policy and quantitative easing are both unleashing "hot money" that is seeking higher returns anywhere they can be found in the global economy.

In a larger sense, the Fed is attempting to repeal the business cycle. In the normal course of capitalism, low rates and easy credit lead to increased borrowing, which leads to rising consumption and investment in production to feed that increased consumption.

This leads to higher profits, which feed more investment and debt.

At some point, the cycle hits a brick wall: borrowers can't afford to pay more interest, so debt stops rising, and consumption and demand slump as borrowing levels off. In the rush to mint profits, production capacity exceeds demand, and as a result prices and profits both fall.

As the boom progressed, investors sought out riskier, more marginal investments. As new debt and demand fall, then these riskier investments lose money and are either shuttered or sold for a loss.

As profits decline, workers are laid off and commercial borrowers find their income streams aren't sufficient to meet their obligations. The credit cycle turns from expansion to contraction, as marginal borrowers go bankrupt and insolvent businesses and loans are liquidated or written down.

This purging of bad debt, speculative excess and misallocated resources sets the foundation for another cycle of renewed growth.

But the Fed has attempted to repeal the credit cycle. Rather than allow credit to fall sharply and interest rates to rise as bad debt is purged from the financial system, the Fed has pursued a policy of making credit even cheaper in the hopes that financial-sector borrowers will be able to borrow more since rates are near-zero.

But since consumers and enterprises are still burdened with mountains of existing debt, few are willing or qualified to borrow more. As I recently wrote here, consumer debt in the U.S. has declined a paltry 2.7% in the Great Recession.

The Fed's quantitative easing ends up flowing not to households or productive enterprises but to the “too big to fail” banks and Wall Street firms, which then seek higher returns in assets such as stocks and commodities.

The Fed's intention was to push money into productive enterprises, but instead it has fed pools of speculative money chasing high returns in global commodities. This is helping to fuel inflation in food and other commodities, not just in the U.S. but globally.

Now the Fed has backed itself into a corner: if it keeps interest rates low and continues pouring hundreds of billions of dollars into “hot money” hands, then it will adding to the destabilizing consequences of rising commodity inflation. If it stops its quantitative easing stimulus to help cool global inflation, it threatens to derail the stock market run-up. Without QE2 to hold down rates, interest rates will rise, pushing marginal borrowers out of the market and increasing borrowing costs for everyone from new home buyers to those buying new vehicles.

By attempting to repeal the business cycle and refusing to allow a necessary credit cleansing (writing off of bad debt) and repricing of risk, the Fed has created an inescapable double-bind for itself: either continue to pursue easy-money policies and help destabilize the global economy with rising commodity inflation, or allow interest rates to rise and destabilize speculative markets and marginal borrowers.

China is also trying to have it both ways. China's leadership is on the horns of a dilemma: if it continues pumping up rapid growth, it will inevitably feed inflation, while if it raises interest rates and curbs lending to limit inflation, that policy will restrain overall growth.

Though profits and gross domestic product (GDP) have been surging over the past decade as China's productivity improved, these gains have not trickled down to the workers' paychecks. According to the National Development and Reform Commission, incomes only kept pace with profits and GDP in three of China's 27 provinces.

In other words, the "rapid growth" is flowing only to the top tranch of China's households, while food and energy inflation's impact is felt mostly by lower-income wage earners. In effect, China's economy and political structure is creating a nation of Haves and Have-Nots. (Sound familiar? Just substitute "America" for "China" and the statement is equally true.)

Victor Shih, an Associate Professor of Political Science at Northwestern University, sees the government's tight control over yields on savings accounts and lending rates as a primary cause of rising inequality: as inflation accelerates, China's savers are losing money, as the return on savings is lower than the rate of inflation. Negative returns on savings act as a stealth tax on China's households and a subsidy to the government-owned banks.

The banks then turn around and loan money to politically connected real estate developers and government-owned enterprises at interest rates that are near zero in inflation-adjusted terms. "The Chinese financial system channels wealth from ordinary households to a small handful of connected insiders and state-owned firms," writes Shih.

Insiders and top managers take home substantial income in cash that goes unreported in regular channels—so-called "grey income." This is another source of wealth inequality: average workers don't receive these large cash payments, which are considered commissions and bonuses in China.

A Credit Suisse survey of urban households in China found $1.5 trillion in grey income unreported in the official household income numbers. About 60 percent of this grey income flowed to the top 10 % of households. According to Shih, while income of normal households rose 8%, the top 10% of households saw their income leap by 25%

The net result of these structural imbalances, in Shih's view, is a China that is "increasingly splitting into a small upper class that spends freely on luxury goods, and a remaining population whose earnings and savings are eroded by inflation and state confiscation."

So both the Fed and the PBOC are creating two equally destructive and pernicious financial forces: runaway commodity prices fueled by asset bubbles and heavily goosed speculation, and rapidly increasing wealth/income inequality as the gains from speculative excess flow to the top while the price increases and low yield on savings stripmines purchasing power from those least able to afford it.

You can't have it both ways, and that's something neither the Fed nor the PBOC is willing to admit--yet.

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Mike2756's picture

What i thought, 100+ oil or not. Decisions, decisions...

NoClueSneaker's picture

The great enconomist guru, Frank Zappa made his predictions about 30 yrs ago:

check "Cocaine Decissions "....

wherewasi's picture


FZ couuld fix all this better with his guitar than Bernank could with his printer.

Thanks for the reference... brought back memories of several great Halloween nights in NYC.

baby_BLYTHE's picture

When Hyper-Inflation comes to America... A lot of people are going to be upset!

Dr. Richard Head's picture

Chairman Benny Mao - "Let the have cake and eat it too!  Everyone will be a millionaire shortly."

Michael's picture

The Bernank could come out and just say; Yes Fed policy is driving food inflation worldwide causing riots and revolutions but we are monitoring the situation.

Everyone would be like, tell us something we don't already know. But Wall Street and CNBC's jaws would drop saying, what did Bernanke just say?

It's a sick joke our leaders have become.

tired1's picture

"Actually I made a mistake. I meant to say QE 18."

Cognitive Dissonance's picture

The Fed hasn't tried to repeal the business cycles as much as they have tried to circumvent it entirely by turbo charging everything in sight. If the cycle were to assert itself at this point in the insanity, global financial meltdown would commence.

Ground control to Major Tom, take your protein pills and put your helmet on

lsbumblebee's picture

Well at least somebody tried to explain capitalism to Chairman Ben Mao.

Sheriff Douchenik from AZ's picture

YES! Here's is the video of what happened after it was explained to him. Looks like he had a rough night of it. For purposes of TARP his last name has been chaged from Benanke to Mr Lahey.


honestann's picture

Ben Bernanke and the FederalReserve are rabid predators, and must be put out of our misery before they take out everyone else.

The only difference between them and a rabid dog is, the destructive, predatory ways of Bernanke and friends are entirely intentional.

They need to be shut down.

Escapeclaws's picture

Central planning of the economy--isn't that what they used to do in the Soviet Union? Sounds like Benobama would fit right in there.

tired1's picture

You mean the former Soviet Union, the US is the current version (brought to you by the same folks)..

gaugamela's picture

The US Gov't can't control the fact that China is pegging its currency to the US Dollar. It's not the US "printing" that is causing the problems -- its the Chinese printing (no quotes here b/c they literally are running the printing press on a massive scale) b/c of the currency peg. It's a bit of a stretch to blame the US Fed for this.

glenlloyd's picture

That's a consequence of the problem, not THE problem.

What you're suggesting is that our difficulties would all be solved if everyone else just sat back and accepted the consequences of the Fed inflating with nary a whimper.

gaugamela's picture

The other way around. China is the cause of the commodity bubble, not the Fed.

sbenard's picture

But Charles, haven't you heard of printed prosperity? "Bubbles" Bernanke is a master at it! Never mind that it never works and creates even more misery and catstrophe later...

mraptor's picture

Here is explanation why Fed does not need QE for the next 2 years..!.html

Racer's picture

"either continue to pursue easy-money policies and help destabilize the global economy with rising commodity inflation, or allow interest rates to rise and destabilize speculative markets and marginal borrowers."


Curb speculative banksters or kill the poor with high inflation in necessities... decisions, decisions....




sbenard's picture

So let me get this straight:

"Bubbles" Bernanke imposed a policy whose objective was to create more inflation, but now that it has done so, he disavows that it has worked?

Impeach Bernanke NOW!

AbandonShip's picture

Core CPI doesn't show inflation so it must not exist.   Keep printing.

Bearster's picture

I agree with the article's main point.  But I have to disagree that easy credit is part of the normal course of capitalism.  Of course, we have not had capitalism in well over a century.  What we have today is the regime of irredeemable paper money, with interest rates set by diktat.

In the "normal" (if one could use such a word) course of central banking post the 1971 gold default, the business cycle is driven by the manic-depressive policy of the central bank.  Post 2008, this has changed.

FreedomGuy's picture

I agree with your post, Bear. As I understand it in a true capitalist economy where money and credit cannot be expanded to infinity borrowing will increase in good economic times and as the supply of money (essentially saved money and venture capital) dries up the price of money will rise, i.e., interest rates rise. This by itself should slow down expansion as loans get more expensive and theoretically the loans may also get more risky. However, because there are central banks all over the world and bank reserve rates are allowed to vary (fractional reserve banking) the money supply and therefore price/interest rates stay artificially low. Given too much money as we had before the housing bust there is even competition to loan it out creating even lower rates...especially since we allowed crappy loans to be offloaded to Fannie, Freddie and Foreign concerns. So, the boom-bust is a direct result of central planning and management and the lack of free markets for money. If the money supply stayed constant, deflation would be the would increase in buying power as productivity improved. The fact that inflation is the historical norm shows the net effect of Fed/central bank manipulation. There is no balance and the wizards of currency never get it right. They'd have to be God to do so...financially omniscient with no character flaws. Unfortunately, we get men fully equipped with character flaws.

Die Weiße Rose's picture

who cares whose fault it is ?

these Markets are fucked and dysfunctional ever since 2003,after the dotcom crash.

Insider trading ,fraud,corruption,greed and fear drive these markets and if you trade this shit on fundamentals you are the loser and might as well go to vegas and piss your assets down the toilet. the only way this shit is going to be fixed is by another crash and i am thinking to at least march 2009 levels or lower,since everything has gone up worldwide on nothing more than bull-shit and spin by the advertising Industry who exists on bullshit !

I should know,I spent 20 years spinning that shit and made a million that way.

So,now I said my piece and I feel so much better!

Fuck the US Ponzi Markets,fuck all financial markets, fuck Bernanke, Greenspan the US

the EU and the whole greedy fucking world of ponzi - schemes of so-called hedge-funds

where the mob cartel rules over the unsuspecting victims with the blessing of various Pimp Governments. Fuck them all !


RemiG2010's picture

So much anger, so little faith in the "free" markets.


Chill out young men. Soon we'll move to a new system though I am not saying it'll be better or worse.... different.

Spalding_Smailes's picture
The dollar, the RMB and the euro?

MAR 12TH, 2011

The RMB is unlikely to become a serious reserve currency in the foreseeable future.  There are a number of reasons for this.  First and most obviously, there are few realistic mechanisms by which the world can acquire RMB.  Either China needs to run a large current account deficits, or it needs totally open domestic financial markets in which foreigners can easily acquire domestic RMB-denominated bonds to the tune of several percentage points of China’s GDP annually.  I discussed why in a blog entry five months ago.

We are unlikely to see either for many, many decades.  Although China will struggle to bring its current account surplus down, there are only two ways it can do so (remember that the current account surplus is equal to savings less investment).

One way is for a further surge in investment.  At current levels, however, investment is already so value-destroyingly high (to coin a new adverb), and it is pretty clear that Beijing is desperate to reduce the economy’s dependence on further investment growth, so we can pretty much dismiss investment acceleration as something that is likely to be maintained over the next decade.

Michael Pettis is a Senior Associate at the Carnegie Endowment for International Peace and a finance professor at Peking University’s Guanghua School of Management, where he specializes in Chinese financial markets.



oh_bama's picture


People are way too pessimistic and unamerican!

Of course FED and PBOC can have their ways. Same for ECB and BOJ and BOE!!


DID I TELL YOU BUY TFD earlier today???

Die Weiße Rose's picture

oh yes, I forgot the biggest gambling casino and human rights violators:

China ! Fuck you China !

disabledvet's picture

of course "if you blow up Japan the way you blew up..."  it's time for me to stop, isn't?  pointing out the idea that "the Fed should be the one making money at all costs"?  some truths, some truths....

Die Weiße Rose's picture

and fuck you:

King of Saudi Arabia,Bahrain,Libya and that Gaddafi Idiot

who enslave ,exploit and kill people just to have some fun...

this world is just totally fucked up !


AbandonShip's picture

But it's finally improving, no?  I'm kinda of happy to see these institutions crumble. Hopefully we'll get it right on the next spin.

michigan independant's picture

You will find out a lie wrapped in truth is the same as truth in a lie. We are busy in a few segment's very much so get over it. The point of supply chain is to specialize not share idea's since it is a political economy wrapped in so called Liberty's white dress. We will do what what we do since innovation is tolerated since yes there are more souls on the planet. In Business you listen to the Customer. Government's are punished in zones who are challenged between the ears. I will not convey the print on how or why but in zones we had more than competion eating our lunch issues which are many. The point is not acedemic or ever has it been since we are tolerated as a group who only have to survive short term survival issues you may or may not voted for on Terra and nothing else in History point blank. We all know this and the rest is acedemic as we watch both sides of the coin piss on each other and say its raining. It is another new Business cycle only in context to risk management. Flush with cash as the rules convey the incompetant to the so called competant.   

" Before congress he says that the recovery, not money printing is causing a rather destabilizing spike in commodity prices. Looking for evidence in nominal price charts "

Yes plus bend the trend as The current mindset on the Hill Stated earlier. Nature is another issue of Economy.

JR's picture

Charles Hugh Smith takes up where Henry Hazlitt left off in Economics in One Lesson, last updated in 1979..  Hazlitt ended his Lesson believing he detected a break here and there in the dark cloud obliterating the nation’s free enterprise system, that “more and more people are becoming aware that government has nothing to give them without first taking it away from somebody else – or from themselves.”

Hazlitt’s warned that “Increased handouts to selected groups mean merely increased taxes, or increased deficits and increased inflation.  And inflation, in the end, misdirects and disorganizes production.”

Hazlitt’s faint hope, alas, has been dashed by a captured economic system operated solely by a self-serving criminal banker cabal, thumping its chest as “too big to fail.”

The only way now that public policy can be reversed before the “the damage from existing measures and trends has become irreparable,” as Hazlitt feared, is to end the Fed now, while Charles Hugh Smith and Zero Hedge help to shift the wind.

A quote from Nathan’s Economic Edge Morning Update today punctuates nicely Smith’s commentary:

“Did you see the impact Anonymous had on BAC shares?  Fifteen whole cents! Oh boy, that is quite the display of total market capture by the banks.  Not only did their blatantly illegal activities not affect share price, I couldn’t even find mention of it in the mainstream news.  There’s a lot to be gleaned from this observation, like the fact that the rule of law obviously no longer applies to the banks (already known), and that the people who hold the shares know this.  Of course it is the banks who own one another’s shares, that’s how they keep appearances up – well that and outright accounting fraud…and theft…and direct market manipulation, just to name a few of their well used tools.  Hey, nothing to see here, move along my wayward son…” – Nate

End the Fed!

Michael's picture

Nice article JR, Thanks.

FreedomGuy's picture

I disagree with your comment on the 'captured economic system operated solely by a self-serving criminal banker cabal, thumping its chest as “too big to fail.”'

Our government has been captured by thousands of interests whether its farmers who still get subsidies in the face of record crop prices, union employee thugs getting paid twice the private rate for crappy worthless work, protections for sugar, redistribution for favored groups, etc. It is like too many ticks or vampires drinking the blood of the country through government. Bankers may be at the top of bloodsucking pyramid but they are not alone. Since Congress dispenses other people's money and one half the electorate is part of a party dedicated to endless government expansion, there is blame enough to go around. By the way, the other party is rather schizophrenic in its opposition to big government, as well.

I believe it will not get fixed barring a wholesale breakdown of the system. The numbers, obligations, promises, lack of political resolve on top of a population that has been heavily indoctrinated by unionized government schools, statist colleges and an allied liberal press will have neither the knowledge or will to fix anything. The Fed's monetary policy is just the enabler for the drug addicted Congress and people.

Geoff-UK's picture

Please, for fuck's sakes, stop posting shit by Charles Hugh Smith.

Miles Kendig's picture

If you can't handle speech that is unconstrained then I suggest you constrain yourself form consuming it

Miles Kendig's picture

CHS - Opium smoking/dragon chasing has been brought to central planning, in force.  This time it's global and it will run until it doesn't and collapses under the weight of its avarice and sloth.  Meanwhile, the addicted are running the rehab with the expected results.