Courtesy of Jaime Falcon.
Love it or hate it, Federal Reserve Chairman Ben Bernanke is printing difficult-to-comprehend amounts of money and is driving interest rates ever lower. There are staunch supporters of these policies – and there are vitriolic critics. But is monetary policy really worthy of love or hate? Can’t we just ignore it? Here is a guide to dealing with the financial elephant in every room in America.
The Effects of QE and 0% Interest Rates
Let us first examine the unequivocal effects of QE and zero percent interest rates (QE and ZeroP).
1. QE and ZeroP forces people out of savings accounts and CD’s, and into riskier assets, thus driving up asset prices, making bank balance sheets look better, and enriching those with assets. This is particularly problematic for people who are retired or are close to retirement and for people who are risk-averse.
2. QE and ZeroP will ultimately produce some measure of inflation, which will induce people into spending money now because tomorrow goods will cost more.
3. QE and ZeroP enables banks to borrow for free so they can buy treasuries and earn risk-free money – thereby facilitating their eventual return to some measure of solvency.
4. Equity prices move up every time Ben Bernanke announces a QE… regardless of whether it has any positive effect on the real economy. At a minimum this makes Americans feel more secure about their future and the future of the country. And it provides Ben Bernanke with a shot at continuing to occupy his position as one of the most powerful men in the world.
5. Inflation and currency debasement means that our international debt is diminishing in real terms; a 10% decline in the value of the US dollar means that China is going to get paid back 10% less of what they are owed.
6. QE and ZeroP rewards speculators and penalizes savers.
What Ben Bernanke is Hoping
In addition to the unequivocal effects of QE and ZeroP, the Fed is hoping that it will ultimately accomplish the following:
1. As money is forced into assets like houses and equities and fine art, the value of those assets will rise, investors and homeowners will feel wealthier, and spending euphoria will return once again. That increased demand, should it materialize, will lead to a growing economy and falling unemployment. This is known as the wealth effect.
2. If all goes according to plan, productivity will then once again overwhelm both the enormous debt that we face, and the massive amount of unaddressed fraud that underlies a good chunk of our financial sector (click here for Janet Tavakoli’s discussion of our Corruption to Productivity Ratio).
What Critics are Saying about Chairman Bernanke
Criticism of Ben Bernanke is plentiful – and not just because of his very loose monetary policy. More fundamentally, he did not see the crisis coming and plenty of people did. Michael Burry, who called the crisis and profited handsomely off it, has been particularly critical of this uncomfortable fact (and has paid the price for his criticism). The most common explanation for Bernanke’s inability to see the obvious is that it was not foreseeable. That, of course, is utter nonsense. Plenty of people saw it coming and many people profited off of it. Those who profited off it were not speculating; they were crunching numbers. No serious and uncompromised analyst will claim that it was not foreseeable. Bill Black’s explanation as to why Ben Bernanke and practically all of our policy-makers were unable to see the obvious: theoclassical economic dogma. Alan Greenspan’s legacy has created an economics profession that is so closed off from reality that it is unable to see anything that does not fit within its rigid and unrealistic models. The result is that our most esteemed economists are the least able to see what is right in front of their noses.
When Ben Bernanke became Fed Chairman, he took the baton from the most interventionist Fed Chairman in history: Alan Greenspan. And he has run with it. There has never been intervention on the scale that we are now witnessing. There is no way to predict just how our government-dominated economy will come out of this – or even if it will ever be able to so in any significant way. But we know for certain that market forces are being completely overwhelmed. Interest rates do not reflect the cost of money or the risk inherent in many currencies. And our government is guaranteeing the vast majority of mortgages. The Fed has largely removed market forces from the calculus and it has adopted policies that protect the systemically dangerous and fraud-friendly institutions that make up the largest banks in this country. It is unprecedented and fraught with danger. If you look at the very big picture here, we have an economic problem on a scale never before encountered or anticipated. And Ben Bernanke is only moving in the direction of more and more intervention.
What Critics are Saying about QE and ZeroP
There are plenty of analysts who believe that there is little or no wealth effect and that the drag on the real economy from unsustainable debt levels and a financial sector riddled with fraud, will be impossible to overcome. And many believe that we should be using fiscal policy and not monetary policy to boost employment. There are those who submit that QE and ZeroP actually discourage hiring. Many analysts believe that we have reached the end of the road in terms of being able to goose our economic system with loose monetary policy. Their prognosis is poor to bad. The best case scenario for them is muddling through for years (think Japan). The worse case scenario for them is a crisis that brings down the currency because we no longer can paper over the systemic issues facing us (think Zimbabwe or Weimar Republic).
Is It Time to Love or Time to Hate?
No and no. You simply cannot love a policy that is fundamentally undermining the currency and is setting us up for long term instability. On the other hand, there is little point in hating a policy that is providing a roadmap to you for investment and economic decision-making. Barry Ritholtz‘ Captain analogy is excellent. He sees himself, when it comes to managing money, as the captain of a ship. His job is to check the currents, gauge the winds, figure out where the icebergs are, avoid the sea monsters, and then to guide that ship as best he can to the best possible destination. That applies to all of us; we are all captains of boats. If we focus too much on whether the wind is blowing the way we would like it to, we are going to lose sight of where we are going; the current may overwhelm us, or we may run aground.
If you are a banker in a Systemically Dangerous Institution, you probably are very pleased with Ben Bernanke, QE, and ZeroP. If you are just a captain of a boat, do not waste your energy hating Fed policy; listen to Chairman Bernanke, study your navigational aids, set your sails accordingly, and try to avoid those sea monsters. Staying in port is not an option in this environment.
If you want to oppose Fed policy on the weekends, that’s OK. But remember that second-guessing Fed policy is just a hobby; during the week your boat is adrift and using your energy to fight the winds is going to cost you dearly.
As for ignoring Ben Bernanke, do so at your peril; he is now the wind in your sails and the current beneath your vessel.
