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The Myth of the Fed’s Exit Strategy
The “Exit Strategy” the Fed’s Bernanke is contemplating is nothing less than a total, unadulterated myth. This is the fairy tale you read to your young children at night where the government cuts back its spending and the Fed shrinks its lending. The private economy then picks up the slack, and the rest of us live happily ever after.
Unfortunately, this time there will be no Prince Charming riding in on a white horse. In 2009, the US ran an unprecedented $1.5 trillion budget deficit, financing the shortfall by issuing Treasury bonds. The Fed happily obliged by soaking up this tsunami of paper, either directly, or indirectly through mortgage purchases.
This boosted its own balance sheet from $800 million to a mind boggling $2 trillion in the process, or about 14% of GDP. Were there any other takers of new government debt? China bought $100 billion, and another $200 billion went to a hodgepodge of assorted foreign central banks and sovereign funds, barely 20% of the total.
Back out the Fed as the buyer of last resort, and where are we? The private demand isn’t there, especially if the Fed plans on raising interest rates at the same time. I can already hear the excuses the foreign buyers will be fobbing off on Tim Geithner; I’m sorry, but I’ve got to rush off to a Peking duck dinner; it’s Ramadan; I have a date with my mistress; the dog ate my homework; etc; etc; etc;. The $3.8 trillion budget Obama proposed for this year, with another kick in the groin, $1.6 trillion deficit and $1 trillion in tax increases, isn’t encouraging me to back off from this ledge.
There are only two possible outcomes to the greatest financing gap in history. Interest rates have to soar to unimaginable levels to attract recalcitrant investors, or the plunge in spending sends us into a postponed Great Depression II.
Let me know which one it is, will you? I’ll be hiding out in my camouflaged underground bunker in the desert. And if you do come calling, be a peach and bring me some MRE’s, a five gallon bottle of water, and a case of 9 mm ammo, will you?
For more iconoclastic and out of consensus analysis, you can always visit me at www.madhedgefundtrader.com , where the conventional wisdom is mercilessly flailed and tortured daily. You can also download past interviews with industry heavyweights on Hedge Fund Radio.
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The exit strategy includes forced participation of all domestic retirement and investment funds into Treasuries starting at 10%. Military involvement throughout the world (particularly the Arab States encourages strong foreign Treasury bid prices. Infinite deficits can and will be financed.
Perhaps, but Obama can't pull it off. His magic is done.
It's worse than that. Once the interests rates start going up, I think they will have to explode, signaling that there is no more higher interest rate that can be offered to offset the risk, or rather the fact that the dollar will be absolutely worthless.
PS have already ordered Emergency Food storage supplies,mylar bags, 6 gallon food grade pails.
Ammo and guns? Got that a long time ago because the shelf life is decades.
The exit strategy has always been a gamble. Bernacke takes a lot of crap from readers at ZH, but he was initially correct in his diagnosis. Not his fault that congress and the white house went absolutely insane. Option a) let the situation play out (most banks fail and credit seizes) would have been really bad, while Option b) back stop the system creating a fire break was bad, but at least gave a shot at playing with the system to get out.
What f-ed it up was the new admin deciding to buy the auto industry and balance every state budget with 1.3 trillion of our money--the insanity.
Now we are in a bind as MHFT and all of you have reiterated. All I'm saying is that at one point (DEC08) we at least had a shot going forward. Now we don't.
the choices were at least three and you left out the best: put the financial institutions in receivership after emergency legislation to legalize fdic or someone's supervision over shadow banking, replace management, separate the toxic assets, wipe out shareholder equity and as much bondholder credit as necessary to make up the difference between cost and market, pay off depositors and counterparties, sell the remaining part of the business reimbursing the treasury for any transitional costs. something like this is the standard practice for those banks that weren't too big to fail. check out paul volcker's oped in the nyt or john hussman's much more erudite post last week.
You forgot perp walks and bracelets. The national psyche requires it.
But, but, but, that would make really rich people really poor!
Pay attention to the money supply - the money supply in circulation - not the fantasy accounting entries.
The money supply is VAPORIZING. And there's nothing the central banks can do about it. With no new new cash being borrowed into existence, there's no fuel for the economic engines of the West. Without new cash, all the rents come crashing down.
We're in the first innings of HYPER-DEFLATION.
Without radical tax and debt relief across the globe, the fiat money supply will disappear.
Debt is money. Debt was money.
Credit is not money. Debt is not money. They are methods of creation of money, of financing the money used in an enterprise.
You got that right, Jack.
Hyper-deflation?
Ummm... errr... gold bitchez?!?!
People should see that deflation, not inflation is coming, mainly due to the fact that the money being printed isn't making it anywhere where it can inflate anything.
MB,
You evidently do not shop where I do....
Everything I buy, has increased, at least 10% in one year, and the year before that.( wages are dropping, and REAL full time jobs are non existent),and I live in a HUGE state, with less fiscal issues than any other.
NOTHING is less expensive..........if this is not INFLATION, what is?.
PM's will go down initially in Hyper-Deflation, but, not for long......
You're insane or you're lying. Houses, cars, electronics, fuel and everything else is cheaper than it was 3 years ago (sans food, perhaps). I haven't paid full price for anything in the past year. Go to your local mall and count how many stores are running banner sales.
That's supply destruction. The deflationary bust comes before the inflationary boom. It takes some time before all fiat money is comes in consumer hands. Also, don't forget that inflation has been the us biggest export product. Those dollars will come home to roost.
OR does the deflationary bust come after the debt inflation boom.....what fiat money? The stuff the Fed injected into the GSEs and then the taxpayers took the bill and gave the money back to the Fed....that's what I thought....there is no injection of fiat money....just a paper trading scheme to keep a floor under the market while it continues to contract buying time for the final groundwork (http://yophat.blogspot.com/2010/01/executive-order-fema-governors.html) to be put into place.
Similar here. Prices of most ordinary consumables are going up. It's mostly concealed, with the quality going down or the quantity in the container being smaller while the nominal price stays the same, but inflation is there.
BTW, a huge state with less fiscal issues than others... sure ain't Kalifornia! Texas, Montana, or Alaska? Since Texas and Montana have some issues, I can only guess.
Interesting note about food containers. My spaghetti sauce jar is now 24 oz., used to be 28 oz., that's a 14% decrease, and I'm pretty sure the price is the same. "Hidden" inflation if you will.
Same with coffee, it used to be 1 lb. bags but now they're generally 12 oz.
Yeah I can buy a computer for less nowadays, but I might buy one of those once every few years, while I'm buying gas, food etc. all the time.
The shrinking food packages are across the board. Canned foods, cereal, ice cream (dramatic in some cases, e.g. Breyer standard containers are now 1/2 the size they were just 2-3 years ago), frozen dinners, etc. etc. But I'll bet most people don't notice.
Yes its true. I noticed this 6 mo. ago.
Dropping dimes to pick up pennies? Food is a whole different ballgame. The strategic supply has long been sold off to China and India.
Unless $10 extra in food a month suddenly made up for the 40% drop in housing values....I don't buy hyperinflation!
Food was the easiest example I could think of. Housing isn't a good comparison because normal people don't buy/sell their house on a weekly, monthly or even yearly basis. They either get a mortage and stay 5+ years or they rent on 12-month leases. Landlords rarely give rent concessions at renewal, so few people are going to get any financial benefit from housing price deflation. Yes, theoretically you could let one lease expire and go rent elsewhere at the now-market rate, but few people will do that, and the transaction costs (e.g. moving company, shelling out a new security deposit long before return of the prior deposit) are significant. The ones most likely to get some benefit either sold their prior house at a loss or got foreclosed. Not a winner.
Deflation in things you own, inflation in things you consume. Great combination.
Yeah how are those stats holding up these days....history is history....the future is wide open! Last rent contract I signed was for 9 months (owner wanted 12 mos and I wanted 6 mos). About time to renegotiate and since rent has fallen another 15% in the past 9 mos....yippee!!!
I'll move my self for the extra $500 to $750 a month! Gun prices have even started coming down!
That is a good combination....one guaranteed to sink the middle class! Lower end of the spectrum doesn't own anything!
At present there are items that are deflating. Property taxes where I live are down 16%. Tolls are down about 10%. Labor rates are definately coming down, and as a contractor I see that everywhere. We have had to offer some nominal rent concessions at apartments we own in order to keep them rented. Consumables are rising in price, and soon everything else will follow. BB has already told us he will flood the skies with currency if it becomes necessary. And with credit evaporating (our current bank is revising the terms of our line of credit, so we are out looking for other lenders) it will soon be raining FRNs.
Well time will tell the story on how well founded your belief in BB is.....since he's already been caught lying multiple times....I'll take the opposite side of that argument!
why buy gold in hyper-deflation? its value in dollar terms will fall along with everything else
Agreed, BUT:
- It will retain value probably a lot better than other assets,
- It will stay liquid, again better than other assets.
Since cash is king in a deflation, just point #2 makes it worth holding a bit of gold. Full disclosure: I have physical gold and tons of cash.I have a hard time envisioning that. If we hit hyper-deflation then the global economy has collapsed. People will want food, water, clothing and housing. What good will gold do except for a few goldbugs.
Likewise, shorting a collapsing market will be an excercise in futility. At some point there will no longer be settlements as liquidity dries up. Markets will stop functioning and you will be left holding your last brokerage statement instead of a can of beans.
Eventually a currency will be required. You cannot make all those things yourself. At some point, what you have to trade will not correspond with what someone else wants. Conversely what you want, will not correspond with what somebody else has to trade. You will either need an intermediate exchange, or a currency item. Alchohol, Tobacco, Firearms...should be a convenience store.
Also Franks n Beans are not food...good way to develop various manifestations of malnutrition, or heavy metal accumulation. Remember scurvy?
So you decide to become a farmer. How you gonna pay for that plow, hoe, shovel, canning jars? Primary needs are food, water, shelter. At some point, everyone needs to keep their shelter warm. There are a myriad of small items we take for granted because we no longer use them in daily life. But they too are critical to survival.
All this is assuming we land squarely back in the Dark Ages, well beyond TGD 2.0...anything is possible at this point.
You worried yet? If not, your not paying attention. Sweet Dreams
At some point, preferably near the bottom of the deflationary cycle, it would be wise to purchase tools that produce what people need.
I'm 100% cash and food storage. The rest is NOYB!
Gold is GREAT in a deflation. It's a currency and the last resort currency. Gold must be measured by real purchasing power versus other things- not by nominal value versus just a senior currency. The senior currency will always have some strength since all obligations must be cleared by that currency.
In inflations- last 10 years- gold's nominal value has increased but nob as much as copper or silver or other commodities. It holds the line in buying power.
In a deflation, gold may buy less senior currency but it buys much more secondary currencies and commodities. See gold versus sterling or yen or Euro.
And when the dollar finally delevers and gets unwound, it be just be flat out revulsed and replaced with another shit bill or by another system wig assets of value.
Gold is money and it is fungible anywhere. As it's he money of last resort with no derivative obligations, it will get stronger in deflation.
Finally - someone not so afflicted. GOLD is money, people. It may not be legal tender but it knows what it is. You think "Old Money" is worried about this or that friggin NOTE getting scarce? The same note that can be conjured into existence electronically? Hyper-deflation my ass. The soon to be reconfirmed Zimbabwe Ben already told you... "HELICOPTER BITCHES!". He could bang out targeted debit cards by the truckload to forestall "Hyperdeflation". He said - "It Doesn't Happen Here" - what part of that didn't you understand?
LOL Except the game has always been about the transfer of assets and deflation is by far the most efficient means. End game. Good luck with gold that can become illegal at the stroke of a pen.
When the $100k tax rebate check comes in the mail to offset the $257k of increased debt burden for 2009....I'll buy into the hyperinflation facade!
it seems to me the question is whether the TBTF will fail (deflation) or will they survive and start lending again (inflation). my bet is on the Fed to prop up the TBTF no matter what. so after the Fed prints the another $4trillion that Barney Frank has already promised the TBFT, and they start lending, we start slipping into unambiguous inflation... then as that policy seems to do little for unemployment, further use of the printing press, which is really the only solution Keynesian theory offers, eventually leads to hyperinflation. so gold at any price right now is a good deal, so are MREs, ammo, guns, and cans of tuna.
If you want ownership of all assets....why inflate and bail the debtor out after decades of pushing towards this point?
You are basically saying that our current situation is an accident with no intentional steering. I beg to differ....look at the relaxation in regulations. We started to flatten out on debt in the 90's and Greenspan created the Sweeps program. Early 00's and he dropped interest rates. They've dug a pit! No way we'll get thrown a ladder.
Look at Obama's recent executive order....then examine the FEMA regions....the creation of FEMA (Oliver North with CIA drug money)....get the picture yet???
Deflation will create chaos and provide justification of martial law! Plus it will transfer ownership of all assets back to the creator of the currency!
Ready to get chipped yet?
http://www.youtube.com/watch?v=XVctWVTA3gI
Confusing monetary inflation/deflation with asset inflation/deflation with price inflation/deflation with wage inflation/deflation will never lead a discussion towards a conclusion.
That was actually my point exactly. Hence the errr... ummmm...
It seems like gold bitchez seems to be the rallying cry no matter what the issue.
House on fire? Gold bitchez!
Wife pissed off? Gold bitchez! (actually, that one might work for a pissed off wife)
Flesh eating virus spreading across America? Well, I'm sure you can guess what's coming next.
I think that one calls for colloidal silver (and a tinfoil hat). Silver bitchez!
Seriously, in a hyper-deflationary scenario (which I happen to think is ludicrous), you'd short gold using the ProShares UltraShort gold ETF, ticker symbol GLL. I don't recommend actually doing that as I happen to think you'd lose every penny you'd put in, but for anyone crazy enough to try it, there ya go.
good point, what happens next in that scenario?
Let me know which one it is, will you? I’ll be hiding out in my camouflaged underground bunker in the desert. And if you do come calling, be a peach and bring me some MRE’s, a five gallon bottle of water, and a case of 9 mm ammo, will you?<<<<
smart ass....ha ha ha
Plunge in spending happens after a plunge in asset prices. This will force a flee into treasurys for one last fix. After that, it would be wise to be well stocked with canned goods and lead in the shape of bullets.
the feds exit strategy is hyperinflation. its historically well documented.
They can't get to hyperinflation until an average wage earner has pricing power and we are a long, long, long, long way from that.
Very very good point
Conventional wisdom says that is true ... without wage inflation you can't have hyper-inflation. However, a substitute for that would be more government giveaway programs. Plus, I am not sure hyperinflation is necessary for the exit strategy. I'm looking for the Black Swan.
Wage inflation has nothing to do with hyperinflation. That's been a myth for so long it's now "accepted wisdom".
In a hyper-inflation scenario, the fire-hose will likely go into investors pockets, not wage-earners - which in turn will cause equities, commodities and everything else to explode in price as there's too much money chasing the same resources. That's why, even with no real demand, oil prices are still bouncing between $70-$80 a barrel, and why equities are now up by a stunning 60% from their lows last year. Wages, on the other hand, are under severe downward pressure - way too much supply, way too little demand. When wages are falling but commodities (and finished goods) are rising, then you're also in an inflationary scenario.
Inflation is an increase in money supply and credit supply(credit performing the same function as money in fiatland.)
Prices rising is a symptom of inflation but not the definition. We are in a deflationary environment with money supply destruction, lowering labor prices and lower credit and money velocity.
Inflating prices are more a symptom of supply destruction.
Commodity price increases are more of a symptom of sovereign currency crisis- as people use commodities as a counter currency.
Increases in commodities like oil are more of an indication of lack of faith and high conversion rates from USD to OILFx or gold money.
Prices for most other things will crash as buying power collapses through labor competition and lower wages.
The only way to stop this death spiral is to forgive debt- as has been done millenia before this little pickle. Hang the bankers, forgive private debt, shrink the government and start over. That's the only way and that's not going to happen. In the meantime, let's cheer Iceland for giving the finger to Britain and saying, " we ain't paying."
+1000,
debt forgiveness is the right way but it would not happen in america today; had it happened last summer and had the bond holders been partially or totally wiped out with the tbtf banksters, america would not be facing depression ver 2.x. It is really mind boggling that an entire country is paying for the debtholders of these banks. Americans are being sold out by their political class.
cocoablini,
Your post is the most clear-cut and accurate definition of terms I have ever read in the inflation vs. deflation debate. Thank you!
+11
I agree ....
Here is why....
Over 30% of the money in the form of equity and credit has basically been eliminated....
For example....if the total currency available in the form of equity and credit was $70 Trillion in 2006/7....and has been reduced by more than $21 Trillion....this simply leaves the question as to how can prices not decline accordingly ?
And the next question becomes one of sustainable wealth replacement....which cannot happen via a printing press or else there would be no poor countries in the world.....
Thus if a printing press is utilized ....this would serve as a reallocation of 39/70's not 70/70's....
One of the only ways that a ustainable form of wealth could more quickly be replentished is to change US tax structure.....ie replace the current system which is just reallocating what is left....to one whereby business formation can happen in earnest....
This brings the next question ....how ?
The logic is this....
The current policies are akin to cutting down orchard trees while demanding more fruit.....This will not work....
What will work is to buy more land and plant more trees ....then there will be more fruit....
How then ?
Remove all individual and corporate taxation.
Replace with a simple 15% consumption tax....to be divided into state and fed uses via state mandates.
Now model this versus the current system....and then 10 years out ....check the tax revenues from both systems....
The simple 15% consumption tax revenue would dwarf the current tax system take....and the real economy via the consumption tax only would be many times the size of the
current tax system economy....
..........................
Other notes....
If the exchanges were to be defragmented....and no transactions could occur off this exchange.....and transaction costs were further reduced to approximately 20 cents per 100 units.....and information on all securities was wiki style fact based.....worldwide and in the language of choice.....This cumulative valuation number alone would dwarf the previous total economy numbers....