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Guest Post: Quantitative Quicksand
Authored by Allan Meltzer, originally posted at Project Syndicate,
Almost all recoveries from recession have included rapid employment growth – until now. Though advanced-country central banks have pursued expansionary monetary policy in the wake of the global economic crisis in an effort to boost demand, job creation has lagged. As a result, workers, increasingly convinced that they will be unable to find employment for a sustained period, are leaving the labor force in droves.
Nowhere is this phenomenon more pronounced than in the United States, where the Federal Reserve has reduced interest rates to unprecedented levels and, through quantitative easing (QE), augmented bank reserves by purchasing financial assets. But inflation – which rapid money-supply expansion inevitably fuels – has so far remained subdued, at roughly 2%, because banks are not using their swelling reserves to expand credit and increase liquidity. While this is keeping price volatility in check, it is also hindering employment growth.
Rather than changing its approach, however, the Fed has responded to slow employment growth by launching additional rounds of QE. Apparently, its rationale is that if expanding reserves by more than $2 trillion has not produced the desired results, adding $85 billion more monthly – another $1 trillion this year – might do the trick.
America’s central bankers need not search far to find out why QE is not working; evidence is published regularly for anyone to see. During QE2 (from November 2010 to July 2011), the Fed added a total of $557.9 billion to reserves, and excess reserves grew by $546.5 billion. That means that banks circulated only 2% of QE2’s contribution, leaving the rest idle. Similarly, since QE3 was launched last September, total bank reserves have grown by $244.1 billion, and excess reserves by $239.4 billion – meaning that 99% of the funds remain idle.
Given that banks earn 0.25% in interest on their reserve accounts, but pay very low – indeed, near-zero – interest to their depositors, they might choose to leave the money idle, drawing risk-free interest, rather than circulate it through the economy. At current interest rates, banks lend to the government, large stable corporations, and commercial real-estate dealers; they do not extend credit to riskier borrowers, like start-up companies or first-time home buyers. While speculators and bankers profit from the decline in interest rates that accompanies the Fed’s asset purchases, the intended monetary and credit stimulus is absent.
At some point, the Fed must realize that its current policy is not working. But developing a more effective alternative requires an understanding of the US economy’s actual problems – something that the Fed also seems to lack. Indeed, Fed Chairman Ben Bernanke often says that his goal is to prevent another Great Depression, even though the Fed addressed that risk effectively in 2008.
The US economy has not responded to the Fed’s monetary expansion, because America’s biggest problems are not liquidity problems. As every economics student learns early on, monetary policy cannot fix problems in the real economy; only policy changes affecting the real economy can. The Fed should relearn that lesson.
One major problem, insufficient investment, is rooted in President Barack Obama’s effort to increase the tax paid by those whose annual incomes exceed $250,000 and, more recently, in his proposal to cap retirement entitlements. While such proposals have been met with opposition, Obama cannot be expected to sign a deficit-reduction bill that does not include more revenue. As long as that revenue’s sources, and the future effects of new regulations, remain uncertain, those whom the policies would most harm – the country’s largest savers – are unlikely to invest.
Likewise, Obama’s health-care reform, the Affordable Care Act, has hampered employment growth, as businesses reduce their hiring and cut workers’ hours to shelter themselves from increased labor costs (estimates of the rise vary). Meanwhile, the faltering European economy and slowing GDP growth in China and elsewhere are impeding export demand.
While subdued liquidity and credit growth are delaying the inflationary impact of the Fed’s determination to expand banks’ already-massive reserves, America cannot escape inflation forever. The reserves that the Fed – and almost all other major central banks – are building will eventually be used.
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Green arrows if you bought the dip yesterday.
Mr. Meltzer......your analysis is horseshit.
The only reason that QE even exists is to keep the dollar ponzi from collapsing.
If debt does not expand exponentially every year, the whole debt/dollar facade collapses.
The explanation behind QE given by the criminal FED is to divert your attention from the real issue at hand.
Not only was his analysis horseshit, but it was written like a HS term paper (and I'm being kind).
The piece is actually a refreshing deviation from Project Syndicate’s normal tilt towards global social progressivism.
The commentary presented about Obama’s policies made me think about the theory of Occam’s Razor, which basically states that, from among competing hypotheses, selecting the one that makes the fewest new assumptions usually provides the correct one.
In other words, the simplest explanation will be the most plausible until evidence is presented to prove it false.
So what’s more plausible? That Obama and Bernanke and the captains of this economy are unaware of the basic principles for true capitalistic success and economic health that have been proven correct time and time again?
Or that they ARE aware and prefer to ignore them to enrich their ilk and themselves while they steer us precisely in the direction we are headed.
Obama is not restricted from doing the 'right' thing, as the author implies. This is exactly what he wants to do.
Stupidity is a fantastic cover for complicity. We place so much focus on stated intent.
"At some point, the Fed must realize that its current policy is not working"
Again, this assumes stupidity on the part of the Fed. If the government gave two shits about the economy, they would cut taxes, and shrink the size of gov't. Seen any efforts to do that? No. Then clearly its an exercise in increasing control.
Overheard someone say "Obama" and "Dictator" in the same sentence today...
America does not have problems.......unfortunately it is the problem.
Massive smack down in PM's this morning. Fuck you Bernake and fuck you JP Morgan and all you TBTF bankster fraudsters. I'm going to party like it's 1999 when you get what's coming to you ass holes.
I am enjoying the smackdowns as their increasing severity and increasing occurence are a pretty good indication that the day of reckoning is getting uncomfortably closer.
By the way did you mean to say "coming to you ass holes?" or did you mean to say, "coming to your ass holes?"
LMAO! both are appropriate I would say...
Pretty much dollar for dollar, everything the Fed has printed is on deposit at the Fed. The total quantity of money is massive. But none of it is being risked investing the economy--Unless you actually think a bank buying a stock is "investing in the economy" the way a bank is supposed to be doing it.
Correct, paper-pushers at select funds (VC guys) and bankers have access, no-one else. See my comment below.
As labor's share of the GDP continues to get crushed, we continue to get closer to social unrest on a massive scale. These are skilled laborers and veterans who find it impossible to make ends meet (despite all the "deflation" talk), much less have a retirement or send their kids to college or a tradfe school. These are people who know how to manufacture and repair all kinds of things, including weapons and guillotines. bankers and their political puppets beware.
That is the idea when it comes to fundamentally changing America. Grind the middle class between inflation and taxation and watch the whole thing fall apart as social upheaval takes hold. None of this is an accident.
Right, but I dare to assert that it could accidentally spin out of control real quick ...
You'd probably want to buy property in Detroit then. Because if the social upheaval happens, those who know how to use guns are going to wipe out large segments of the population and it will be over in days.
I'd say within six months, the population of America will be reduced by 60 million, New York Washington and LA will be on fire, and a real rebuild will begin.
There will be another Civil War, the question is when. The longer the government pushes the conflict back, the worse it will be.
Allan doesn't understand what's happening.
"Given that banks earn 0.25% in interest on their reserve accounts"
Who funds the interest?
That comes out of the money that the Fed would kick back to the US government. 90% of the profit from that the Fed goes back for US government spending. Another big reason for sky high deficits.
one should be examining how much idle capacity is in what sectors. One should be organizing reeducation of the workforce to challenge new frontiers for the civilization to explore.
none of that is happening because for money-junkies the purpose of existance is more junk in their pockets
When it becomes more productive to not work in an economy based on consumption of products generated through labor, what do you have?
Not only are you better off getting on welfare and disability, than actually trying to get a job. Most people know it. Rather than attempting to get a new job after they those theirs, millions of people are deciding just to live off the government instead.
Because so many people are going on welfare, the individual benefits are shrinking. Those that have lived on welfare their whole lives, some third or fourth generation, are responding by having more children to get more government cash. Making even more people dependent on the system.
When you have a 22 year old happy to be a grandmother because it means another check coming in the mail, what kind of fucking country do you have?
Thanks Bernanke. Your legacy will be the millions of zombies created under your reign that will never work a day in their lives, and never learn anything to be of value to society. When the best part of America looks like Somalia, we can all thank Bernanke and his wonderful policy of making life better for 1% of the population.
Give a big hat tip to LBJ and the Democrats of the 60's that created the whole welfare Ponzi.
I understand that during the decline of the Roman Empire, laws were passed in some provinces to prohibit citizens (the middle class) from selling themselves into slavery in order to escape the crushing obligations imposed on them by the State.
Yes, you musn't escape being a State slave by becoming a private slave
There is no amount of budget cuts or taxation that will save the system. Anybody who thinks there are is fucking retarded.Right now we are in grow or die mode, and QE can never ever be cut without the system collapsing.
Ya but we saved the bankers and their massive bonuses for blowing up the financial system...and that is what the FED is about!
The main problem is the machines don't pay for themselves...globally.
Wrong angle...
Buy one robot and put it to work. Then do nothing and watch the money roll in without doing anything. Been happening with automated production lines, automated factories, soon alot of jobs with robotics.
Who actully is going to pay taxes to service the interest on the sovereign debt let alone the welfare bill when the above don't?
When are we going to see the slow/no growth is from the heavy chains of the rules and laws passed by the congress and it's agencies? Add the ox cart of having to support the oversight salaries, pension, etc. to the equation and you can see why interest rates are not the cure.
America's problem is the same as Argentina: a fundamentally corrupt group of leaders is running the country. Until they are replaced there will be no end to the downfall of the country.
Putting in a non-corrupt group will only hasten the collapse. A good thing, from my vantage point, but there is nothing that can be "Fixed" until the monetary system is replaced.
When I was quite a bit younger, I worried about 'saving the world'.
Fact is, the world in its current state doesn't deserve to be saved. Not talking about the people, but the system.
Replacement of leadership by no means guarantees positive change. Downsizing, default, and chaining the government to live beneath its means are the only ways to get there. It won't be pretty and the legions of dependents (in government and on government) will fight tooth and nail for their cut of the productive class.
The US is a massive economy numerically.
"workers, increasingly convinced that they will be unable to find employment for a sustained period, are leaving the labor force in droves"
Many don't realise it but a natural instinct and with their collective sum worth next ot nothng any action they can effect on the economy as a whole is nothing
... because their collective worth is nothing compared to the trillions at the top of the pile.
Game over, why bother. PS It is not just the US it is everywhere and as Bernake uses CTRL-P any positive effect the workers can have on the economy as a collective whole is diminished at the same time. From that you can deduce where that CTRL-P money should have gone and what the required outcome was needed.
Government engineering of the economy will always fail in the long run. There are simply no incentives to be productive as any failure is dammed up with more stimulus or more bailouts. The economy was built on failure that was replaced by more productive and expansive concerns that allowed for risk takers to be rewarded for being adventurous and right. Now, we have the central planners deciding who will succeed and who will fail.
Government is nothing more than the will of the power-hungry to force their mandates on a population; often seen as no more than willing slaves to be led into serfdom and poverty. At least in the US, the Constitution protected us from government and provided for a free capital and wealth based society to emerge and flourish, as it was able. The problem now is that to the extent we have abandoned the Constitution, our economy is no longer free and is now in control of Comminists (or perhaps a milder offshoot) that have every intention of gumming up of freedom based economy and replacing it with an utopia that benefits none as all become equally impoverished.
Benny is wrong with QE. Our problems are mostly structural and internal as free capitalism has been destroyed by a government (over the last 30-50 years) whose policies and mandates encourage welfare and dependency. Thus, the seperation of the super-rich elite from the masses is evident as progressivism replaces capitalism. You are now asleep and pray, dear freind, that when you awaken from your propaganda-induced slumber that your chains are of paper and not steel.
When the bailouts happened, the question of moral hazard loomed large. And yet, it was hardly taken seriously by most. People are unfamiliar with the "escalation of commitment" logical fallacy, But summed up, it means if a politician bailed out a company once, he has to bail it out the 2nd time as well, other wise the money was 'wasted' the first time (its a logical fallacy, as those are sunk costs).
humans are replaced by robots - economic growth actually increases - new products and services enter the market - people have more time to use these products, while personal income flags because there are no jobs - government steps in, subsidizes consumers - corporate america benefits both ways; saving money on labor, their government subsidizes their consumers, the unemployed workers - wall street thinks their earnings are bullet proof - QE subsidizes corporate america, in order to keep the new economy moving forward, while trimming profit margins - corporations offset margin compression with financially engineeed profits - in order to allow consumers with diminishing income the opportunity to purchase new goods and services from these corporations - but as profit margins slim, new smaller companies with no overhead and without massive corporate bureaucracies rise up to replace them - like the ancient roman supply lines in europe in order to secure tribute - the tribal rabble replaces the roman army - middle management gets downsized first - rinse and repeat - the bloated corporate bureaucracy collapses - caused by the hubris brought about buy QE - people necessary services become too expensive - top CEOs get dan rathered - there is no one and nothing doing any work behind the curtain - there is no more brand, no more corporate culture - robotics destroy centralization - the president goes home - promises to spend at least half the year in washington after a rash of violence from guns made on 3d printers which only shoot rubber bullets - they still hurt - president threatens consumers with old fashioned work camps and make busy stimulus projects - (going back in time is what we always do when confronted with too fast new technologies) - america is a nation of slackers he says - senator from his own party pulls a 3d gun and shoots him with a rubber bullet - he goes on vacation early...
The author is working under the assumption that QE's true goal is to improve employment. The more that I see, the more I doubt it. It really looks like the the 2008 bubble was allowed to get out of control, to justify the 1% looting the Treasury.
Blah, blah, blah ... I get tired of the same old tripe; with authors foisting the fundamental assumption that the Fed or any in power give a rat's ass about employment (at least until the unemployed appear on their doorstep with torches and pitchforks). It is all about maximizing power, control over the populace and maximizing the take from said populace. A weak and depedendent population serves the psychopaths well.