Guest Post: QE3 And Bernanke's Folly - Part I

Tyler Durden's picture

Submitted by Lance Roberts of StreetTalk Live,

Earlier this year, as the markets were expecting QE3 from one Fed meeting to the next, I was stating another program would not come until September after data for Q2 GDP could be analyzed.  However, as we moved into August, and the markets were rallying strongly on "hope" of further balance sheet expansion programs, I moved my estimates out until the end of the year.  The reasoning, as I stated, was under the assumption that Bernanke would save his limited ammo for a weaker market/economic environment.  Clearly I was wrong.

Much to my surprise, and against all of what seemed logical, Bernanke launched an open ended mortgage backed securities bond buying program for $40 billion a month "until employment begins to show recovery."   That key statement is what this entire program hinges on.  The focus of the Fed has now shifted away from a concern on inflation to an all out war on employment and ultimately the economy.  However, will buying mortgage backed bonds promote real employment, and ultimately economic, growth.  Furthermore, will this program continue to support the nascent housing recovery?

Employment - Where's The Demand?

During the Fed's announcement today Bernanke repeated several times that the primary concern of the Fed is now employment.  One of the Federal Reserves primary legal mandates is to foster full employment in the economy.  However, after two previous Large Scale Asset Purchase programs (QE), and a Maturity Extension Program (Operation Twist - OT), has employment meaningfully recovered.  

The chart below shows the net gains in employment since the beginning of 2009 as compared to the number of individuals that have moved into the "No Longer In Labor Force" category where they are no longer counted.  There has been an increase of 3.4 million jobs since the lows of mass firings and layoffs post the last recession.  That increase is far lower than would have been expected in any normal economic recovery.  At the same time, however, more that 8.4 million individuals have just "given up looking for work" or "retired." during the same period.  There is NO evidence that bond buying programs have any effect on fostering employment.  However, at the current rate of individuals leaving the work force Bernanke could likely get his wish of "full employment" in the next couple of years.  Of course, economic prosperity will have deteriorated much further as the rise of the "welfare state" continues.


The next chart shows the number of individuals, since 2009, who are now claiming disability and food stamps.


The point here is the manipulating the bond market, and inflating reserves for the major banks, does not create end demand for businesses.  In our recent report on the NFIB survey we stated: "While there has been some improvement since the peak of the "Great Recession" - poor sales still provide an overriding concern for U.S. businesses when it comes to making decisions to increase employment or expand operations.  While the concern over 'poor sales' remained stagnant last month the number of businesses saying this is a "good time to expand" fell from 5 to 4 and remains near the lowest levels since the end of the last recession."  QE programs do not address the problem aggregate end demand on businesses.  In fact, it makes it worse.  

Diane Swonk tweeted after Bernanke's comments that:  "Fed move to stimulate with open-ended MBS purchases 'unprecedented.' Focus on unemployment over inflation marks new era"  While the move may be unprecendented by the Fed to focus on employment over inflation - the chart below shows you that he should be focused on the latter.


From a consumer's perspective the effect of food and gasoline as a percentage of wages and salaries is crucially important.  As food and energy consume more of wages and salaries it leaves less available for consumption within other areas of the economy. It is evident that not only do balance sheet programs create inflationary pressures on the aggregate but more specifically in commodity related areas.  The chart below shows the consumer conundrum where declining wages meet up with rising costs of food and energy. 


It is notable that during the Maturity Extension Program (Operation Twist or OT) the inflationary pressures subsided for the consumer.  This is due to the fact that OT did not increase excess reserves at the banks which were then funneled into risk assets.  Apart from the recent spike in food prices due to the drought in the U.S. commodities have languished post the last QE program easing consumer pressures in many areas.

The important point, however, is that for businesses to hire employees it will require an increase in aggregate end demand.  As the concern over "poor sales" diminish - hiring will pick up.  Unfortunately, history shows that balance sheet expansion programs create the opposite effect of that intended by Bernanke.  Rising inflationary pressures in food and energy only act as retardants to consumption thereby reducing the need for employers to add to payrolls.  With corporate earnings and revenue weakening, rising healthcare costs and taxes on the horizon, and exports slowing - it is unlikely that the Fed's purchases of mortgage back securities will spur businesses to hire.

Housing - Set For A Fall

Bernanke's also stated that by buying mortgage backed bonds he hoped to support the nascent housing recovery.  There are two major problems with his thought process that a simplistic look at the data would have revealed.  First, and most importantly, is that interest rates have already been at historically low rates and very little housing activity has occurred.  The chart below shows our housing activity index which measures the housing components that are most sensitive to the creation economic throughput.


Despite trillions of dollars of liquidity, support programs and "forgiveness" for every criminal act in the book, there has yet to be a real recovery in housing.  The most recent upticks, primarily due to speculative investor demand for rental properties, will rapidly dry up as rising interest rates makes buying much less attractive.  It is important to remember that people buy payments - not houses.  The lack of employment, lower incomes, excess debt and poor credit history will keep a large chunk of the remaining population from qualifying to buy for quite some time.  If you couldn't spur a massive house buying binge with the lowest mortgage rates in recorded history - what will another quarter point, or so, actually accomplish? 

However, Bernanke's folly is in believing that QE programs lower interest rates.  There is no historical evidence that yields fall during balance sheet expansion programs.  It is evident, in the chart below, that during liquidity driven programs such as QE, money flows from bonds and into stocks chasing market performance.  As a function of this rotation yields have risen sharply during past programs.  Only during OT did yields remain suppressed along with inflationary pressures.  


Putting It All Together

While the most recent bond buying program will push liquidity into the equity markets pushing asset prices higher - it will do little to help the economy, employment or housing.  The evidence is abundant that the only beneficiary of these balance sheet programs is Wall Street. As shown in the chart below the average level of excess reserves for banks was roughly $19 billion from 1984 to 2008.  Since 2008 excess reserves held at banks has swelled to more than $1.5 trillion currently.


With the consumer weak, unemployment high, foreclosures and deliquencies still burdensome, and businesses constrained by lack of demand - there is little desire, or need, for credit.  This is unlikely to change anytime soon as businesses are forced to pullback even more as demand is further reduced by rising inflationary pressures.

Bernanke was correct about one point - monetary policy has a very limited reach economically and, while up to Congress, it is fiscal policy measures that are needed to promote economic growth. The recent program by the Fed has all but ensured two things from a political perspective: 1) The incumbent President is likely to win the next election, and; 2) that the current gridlock will continue on the fiscal front for another four years.

Clearly, the Fed's actions, and statement, signify that the economy is substantially weaker than previously thought. While Bernanke's latest program of bond buying was done under the guise of providing an additional support to the "recovery," the question now is becoming whether he has any ammo left to offset the next recession when it comes.

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greased up deaf guy's picture

insanity defined. moar moar moar qe!

redpill's picture

Wait, are you trying to say credit is not growth?

Fleecer's picture

So, Fed creates $40B/mo... say, for the next year...  Fed uses the new bucks to buy MBS from banks.  Banks get to continually de-risk their bal sheet at market (OK, above-market pricing)... and the Fed slowly stockpiles the collateral right to every home, apt bld, skyscraper, shopping mall, retail space in the USA-- Which means China and Japan ultimately do-- another discussion).  Banks turn around and give proceeds from selling MBS to their trading desks to gamble in S&P (and sure, dabble some in commodoties).  Continual flow of new money to trading desks sends S&P up up up.  Smart sideline money sees the inevitable fund flow coming, so time to take a ride-- more inflows to equities (and drain from bonds-- seeing that already)... and eventually even the sheeple see the trend... and they finally (reluctantly) come off the sidelines... more upward price pressure on stocks. 

Seems (at least short/med term) bullish for banks, financial ETFs, and S&P in general.   

Back of envelope math...

S&P worth appx $13T... add $40Bx12mo is a ~3.7% increase in 1 yr.  So if ALL the new money went to the S&P (of course it won't-- there are bank bonuses to pay) there's significant "inflation" pressure on equity values... maybe Tyler / others can weigh in on how much "smart" sideline money is out there (and how much "dumb" money still on sidelines).  If they know there's 3% of guaranteed/automatic upward pressure on prices, how can the mob resist riding the train?

WarriorClass's picture

This is nothing but another Bankster Bailout.  Nothing QE about it.  Now we are all MBS suckers.

DeadFred's picture

You give a good description of the best case scenario. His problem is that he just went all-in and it has to work right. Every downturn in recent years stopped because people became convinced that the Fed would step in an save them. Now they committed themselves and there will be nothing to cause buyers to hop back in.  He'd better hope there are no corrections. I still have my short positions (for a bit longer) because I suspect this is not as long lasting as we're led to believe. I'll find out soon.

LMAOLORI's picture



The first thing that should be understood is this isn't about Employment that's just propaganda this is about giving money to the banks/investors

vast-dom's picture

because knowing FULL WELL that buying up MBS's to infinity WILL DO NOTHING TO REDUCE UNEMPLOYMENT is simply another way of saying WE WILL RIG THESE MARKETS INDEFINITELY 



NotApplicable's picture

But surely they'll have to hire a couple of people to track it all, no?

DeadFred's picture

Think of it from the business's point of view "I get free money and low rates as long as employment is down. If we hire people the goodies go away. Hmmm should I hire someone or not?"

What a stupid setup. What a braindead way of structuring this thing.

Sam Clemons's picture

Great charts, but people always have two reasons for doing things:  one they tell people, the other they don't.  

The true reason is to enable perpetual government and bank bailouts at the expense of everyone else.  

khakuda's picture

Let's face it, this latest round of infinite money printing is designed to take bad mortgages off the balance sheet of the banks and put them on the U.S. taxpayer.  The mortgages will not be sold ever, but held to maturity.  All the while earning "interest" which Bernanke says reduces the deficit!  What a joke.  They won't be able to reduce the balance sheet and are basically setting us up for that by telling us now that they are going to stay accomodative long past the time the economy recovers.

They think we are all idiots.  Sadly, many are not financially not astute and can't grasp the point that paper money has no value with an irresponsible money printer in charge.

techstrategy's picture

Hopefully, the Fed will buy my mortgages so I can stop paying all of them and get my own QE for the people!  

LongSoupLine's picture

The "next recession"?!?

We're still trying to get out of the current depression!

boogerbently's picture

I just heard Santelli tell all the bobbing heads that Bernanke doesn't intend QE(all) to help unemployment, it's intended to help the bankers.....they all acted like he told their kid there's no Santa !

Let's all write-in, for Prez/VP, Santelli and Farage.

e-man's picture

With all the money they've printed, it looks like the Fed could have paid off every mortgage and credit card in America.  But the Fed doesn't work on behalf of Main Street.

KidHorn's picture

There's about 10 trillion in mortgage debt and another trillion in credit card debt. The FEDs balance sheet is at about 3 trillion.

e-man's picture

True...should have said "has printed and will print."  Like the song says, We've only just begun....

My point being that giving the money to Main Street which would in turn give it to the banks is still a helping hand to the banks.  Except people get to keep their homes and businesses.

NotApplicable's picture

Since when does that matter? Are you forgetting about the $16T in bailouts they handed out to the banks from 2007-10?

Balance sheets don't mean much when one has magic checkbooks.

e-man's picture

That $16T is what I was initially thinking of, but then those were just good quality loans that were all paid back! Right?

I could almost guarantee that if the Fed backstopped me in Vegas to the tune of $16T, I could pay back every penny and still have a cool $1 T to spare.

fonzannoon's picture

What the hell is everyone so confused about? I wonder if someone thrown overboard in the middle of the ocean writes an article on the way down...The guest posts on here trying to disprove the effectiveness of the fed are more delusional than the fed. At least the fed is deliberate, while these moron's keep taking the bait and keep thinking this is just ineffective policy. Like Samuel L Jackson is going to tell you on TV tomorrow...WAKE THE FUCK UP! It's over. Somewhere George Carlin is rolling over in his grave.

Randall Cabot's picture

I suspect Bernanke is lying about his concern for unemployment and there is something else going on behind the scenes.

KidHorn's picture

Yes. I think he's trying to get the ECB to join the club and start printing.

Randall Cabot's picture

I'm thinking something more ominous-like a big bank is in trouble or he is seeing that the derivatives house of cards is swaying.

e-man's picture

That's exactly what I've been thinking.  There is some piece of information that is not being shared with us.  It scared him enough to pull the trigger what appears to be prematurely.  Not unheard of but certainly noteworthy.

Winston Churchill's picture

Your damened right there is,heres my guess.

Last month the NY fed reopened Fed repo operations.

Stopped reporting them after 6 days.

I think the shadow banking system is frozen again,that why the Fed had to restart repo's.

Then the NY fed decided they didnt like used condom wrappers as collateral,anymore than the SBS

as the repo basis.

There is a MASSIVE liquidy crunch in TBTF banks,why ,I do not know.

Zimbabwe Ben rides to the rescue of the banks by buying assets outright, that are

worth less than used condom wrappers.

e-man's picture

You mean like when the Fed stopped reporting M3 because it was just too cumbersome?  Nothing to see here...

e-man's picture

You know, a liquidity crunch in the TBTF banks sounds to me like impaired European assets.  Perhaps the ECB wasn't moving quickly enough?

lolmao500's picture

I'm sure China is gonna LOVE all the inflation that is gonna be exported.

Remember what help cause the Arab Spring.. QE1 and QE2 which created massive inflation in the middle-east. Now that people are even more pissed and Ben is back at it, the riots/terrorism ain't gonna calm down, it's gonna INCREASE.

Bernanke causes more revolts and terrorism than CIA's friend Bin Laden ever did.

valkyrie99's picture

I've been wondering if this might have been a large part of the point of this.  It certainly isn't to help employment or the larger economy against all evidence; it probably does have a good deal to do with perpetually bailing out banks and raising stock prices for wealthy investors. But those reasons were still there but weren't enough to cause this mass money printing a few months ago.  So what's changed? 

The main factor is China is starting to collapse, the soft landing is coming way too hard, corruption is being exposed and social tensions are rising - all while food prices are already rising mainly due to the drought so China is withholding stimulus measures. Food prices are likely to rise more in China and other developing nations then the US because of this Fed action, making stimulus directed at specific sectors of their economy impossible for China no matter how much they suffer.  We have now pumped out the new money as China's economic bubbles grew, withheld funds as they started to collapse, but are now pouring money in like crazy as soon as its' assured the hot money will affect food prices more then re-flating old Chinese bubbles that have already been exposed. All Fed actions have been the absolutely worst possible moves for China - coincidence? 

In looking at how much this really affects our decision making, note these elites are very used to sending many of their own countrymen into die in battles and its' still counted as a 'win' as long as more of the other guys' die. We could be shooting ourselves in the foot in belief that we might be able to get China in the head with the same bullet, as this is the best way to maintain US hegemony in the medium term.

Oh regional Indian's picture

It's not a folly FFS, it's the PLAN.

Econometrics, it's a science with a very high degree of predictive accuracy. Extremely high.

PLAN, no fools on the bridge here. It's planned to be inflated till it explodes. And it will explode exactly when they are good and ready.

Our primary out from the PonziPrizon are force majeure and deep personal preperation.


Strider52's picture

There are millions of Joe Six-Packs all over America wondering "How does this get me a job?? I don't even know what an MBS is, unless it's More Bull Shit"

NotApplicable's picture

An MBS is an asset with it's value derived from the distillation of unicorn farts. It also violates all laws of physics, since mortgages exist multiple places simultaneously, while the MBSes they are assembled into are sliced and diced to an infinite degree, making it impossible to know exactly where it is, even though it is "legally" bound to the trust underlying it. Yet the trust likely doesn't own it, due to failure to file transfers in order to keep the chain of title intact.

It's kinda like the Heisenberg Uncertainty Principle, but applied to mortgages.

Hope I've been of some help.

The Navigator's picture

Ahhhhh........ the smell of unicorn farts in the morning

barliman's picture


The ChairSatan's syphillitic mind has snapped.

He has triggered the economic collapse.

When the Asian and European markets open on Monday, the euphoria will have worn off and the reality of currency appreciation and exported inflation will take hold.


Wheeeeeeeeeeeee !!!


youngman's picture

What does he have left.....well his 40 billion a month will turn to 80 billion a month..then to 160 billion a month....and so forth......and I agree..he sees something that he is not talking ended is the tell all....

hedgehog9999's picture

This is certainly a big possibility, I don't think he will buy assests that are part of the derivatives implosion that may be already unfolding, but funelling huge amounts of cash to the banks will mitigate that implosion. The good news there is that the extra money the banks get would not go towards commodities and the stock market, it would go soak up the losses in the derivative space, in other words all that extra MBS cash would go to heaven.

If you all recall QEI was huge, it started in late October 2008 and the market still tanked into 666 by early March of 2009.

If what is happpenning right now is a derivative implosion as it did in 2008, that extra cash will go to heaven just as it did in 2008 and the talked about hyper-inflation did not happen................

Two of the areas in derivatives where is the most risk of losses is in interest rate derivatives and Credit default swaps, both are showing bullish signs, if you can call it that as long dated bond rates are going up in spite of all the twisting and jerking he's been doing.

We shall see very soon.

Yen Cross's picture

 " Ho-Ho-Ho", I can't get you a X-mas gift, as my gas tank is empty, and I need to go to da " SNAP" factory!

lemonobrien's picture

release the Kracken, niggas...

Budd aka Sidewinder's picture

The majority of Americans have no concept of what happened yesterday or even what the Fed is or who Bernanke is.  When his ponzi scheme unravels the majority of Americans will be sucker punched and will have never even seen it coming. 

Since the timing of the collapse is impossible to determine it will be very severe and even very swifter.

KidHorn's picture

I agree that most americans don't understand what happened, but it's not Bernanke's ponzi scheme. It's worldwide and started when Nixon took us off the gold standard in, I think, 1971.

Vince Clortho's picture

Nixon and removing the Gold Standard was just one step in the process.  The roots of this scheme go back much farther.

divedivedive's picture

I'm trying to understand better what really happened yesterday. The Fed is going to purchase up to 40 billion a month on MBS's. They are going to purchase them on the secondary market and these securities are implicitly guarenteed with the full faith and credit of the US. 

My reading says that half of the Pimco Total return fund (272 bn) are these MBS's and that fund was only up a nickel last night. Why's that ? Is it that the Fed hasn't started its purchase yet and at this point Gross' profits are on paper ?

I understand a mortgage and I understand a portfolio of mortgages. Then there were all those creative products with traunches and synthetics. Do all of these products fall under the umbrella of the 'full faith and credit' ? or does it stop with simple sub-prime mortgages ?

This thought just occurred to me - could this be a twist on California's idea of using Imminent Domain to acquire mortgages and then forgiving/re-working the principal ? Could the Fed corner the subprime mortgage market ?

ShrNfr's picture

I thought Twist was the last program Bubbles tried that didn't work out.

A82EBA's picture

maybe Gross threatened to dump his MBS?

Ricky Bobby's picture

Oligarchs -- You  Muppets are on a need to know basis, meantime STFU.

cdude's picture

"...the assumption that Bernanke would save his limited ammo for a weaker market/economic environment."


The last time I looked, the Fed's "ammo" was derived from "thin air". No shortage there!

q99x2's picture

Occupy Fort Knox

jplotinus's picture

A clearer, more detailed analysis is needed of what exactly takes place when the Fed buys $40billion/mo of MBS.

For starters, it is assumed the Fed does not have $40billion/mo OTHER than by ctrl-p, i.e. printing new $$.

Secondly what MBSs are purchased? Are they the toxic, subprime ones; and, who will then collect whatever payments result and/or carry out the foreclosures arising under the non paying components of the MBS packages bought by the Fed?

Thirdly, who has the right to receive notice that the Fed is the new owner of this, that or the other MBS?

And, fourthly, how much are JPM and GS going to pocket in all of this?

We urgently need a ZH expose on this.

Just say-in...