"We can pay anybody by running a printing press." — Thomas Gale Moore, a Ronald Reagan economic advisor, 1986.
Don’t expect America’s fortunes to change in the wake of yesterday’s election. Even if some semblance of sanity comes to Congress we are still left with that other dysfunctional institution, the Federal Reserve, which is bent on inflating the United States economy, the dollar be damned.
Part of the problem is Ben Bernanke, the chairman of the Federal Reserve. He was reappointed by President Barack Obama last year and has shown himself to be a kindred spirit to the President. Both had zero business experience before moving to government. Bernanke spent most of his life learning economics as taught by Harvard and MIT, before becoming a professor at Stanford and Princeton.
Bernanke has been hailed as the world’s leading expert on the Great Depression. If you are worried this doesn’t qualify him to help resurrect the U.S. economy you are probably right. It is doubtful that the Pentagon would have put famous historian A.J.P. Taylor in charge of combat operations in Vietnam because he knew so damn much about World War II.
Bernanke is making sure that the Fed does what the central bank calls quantitative easing. That is a fancy term for saying they are “printing money” commented The Wall Street Journal last week, pointing out that such terminology makes it easier for the American public to swallow than if the Fed just came out and admitted what it is really doing.
But even The Journal has it wrong. In today’s world Washington doesn’t run printing presses. The truth is that creating new money today doesn’t have anything to do with paper and ink (if it did the Greens would be screaming about the forests). Instead it is done at the push of a button.
Rather than print money, the Federal Reserve buys assets — usually government bonds, mortgage-backed securities — from banks or on the open market. There is thus more dollars sloshing around in the economy.
So where does the money to buy these assets come from in the first place? In fact says MoneyWeek, “The central bank just creates it out of nowhere.”
The Fed is fighting the depression of the 1930s. It raged before the Internet, TV, and the hula hoop and ended 13 years before Bernanke was born.
In the high-tech age, creating money to float the economy is very simple. The Treasury simply records on its computers the amount of securities the Fed purchased and this new money goes into the banking system to be loaned out at some multiple.
How much money are we talking about? According to Goldman Sachs, the Federal Reserve may soon purchase $2 trillion of assets to stimulate the U.S. economy. Goldman estimates that as much as $4 trillion of additional large-scale asset purchases might be poured into the economy to meet the Fed’s targets. All this money is being created because the Fed has exhausted its usual mechanism of increasing the money supply: Lowering the interest rate at which banks may lend one another their reserves held at the Fed. Currently the Federal funds rate is now zero.
I didn’t go to Harvard or Princeton, but even I understand Economics 101. Creating more dollars — in this case trillions more dollars — will devalue each and every dollar. That means that money you have tucked away in a retirement fund or bank account is going to be worth less, a lot less regardless of who is in Congress and how they are voting.
Back when I was in college I was taught the purpose of the Federal Reserve was to protect the integrity of the dollar. And for most of the 20th Century the Fed did protect the integrity of the dollar. Even when I first started writing about the markets, the Fed under Paul Volcker made the country and the world swallow a bitter pill by jacking up the Fed Funds rate, which nearly doubled between 1979 and 1981; jacking up the interest rate that banks charge each other rose from 11.5 percent to 21.5 percent. That led to a bad recession, but the U.S. dug its way out because the dollar remained intact.
Now we have the Fed as appointed by Obama. And as the chart below shows, under Bernanke, the Federal Funds Rate has been pushed to zero, lower than at any point in more than a half a century. Unlike Volcker, who worried about the stability of the nation’s currency — the world’s currency — The Wall Street Journal recently summed the central bank’s goal: “The Fed hopes to chase investors out of Treasuries into other, riskier securities. Like stocks.”
Since when did it become the Fed’s job to get bullish on stocks? What’s next, moving the Merrill Lynch Bull statue outside the Eccles Building?
Now The Bad News
Moreover, I am wondering if Bernanke and the Federal Reserve Bank presidents have really thought through their actions. What if money isn’t moved out of the Treasury market and into the stock market but is instead moved into euros, gold or anything besides U.S. dollars?
China and Japan are sitting on $1.7 trillion of U.S. Treasury debt. China’s is holding one-fifth of its annual gross domestic product (GDP) in Uncle Sam IOUs. Their leaders might be Communists, but they are not idiots. With the Federal Reserve set to magically create four trillion new dollars you can bet that some of the guys wearing the Chairman Mao suits think it might be time to pull the plug on their Treasury investments.
If this happens, and the Chinese do begin to liquidate Treasuries, it would create a level of financial havoc that would make the Great Depression seem like a bump in the road. I can’t see any way we are going to get out of this unscathed.
I write this before the elections have happened, so I don’t know if the GOP won. But what should scare you is that it doesn’t matter. Congress could include Santa Claus, the Easter Bunny and the Tooth Fairy, and as long as we have a Federal Reserve acting as recklessly as the one now controlling our economic fate, we are in a lot of trouble.
Action To Take
Regardless of the election’s outcome and your expectations for 2012, please don’t get bullish on Big Board stocks or bonds. The core of your holdings should be in physical gold, along with some silver. If you want to get some leverage stick to resource stocks that are involved either in precious metals or hydrocarbon energy.
Yours for real wealth and good health,
Myers’ Energy and Gold Report