The Federal Reserve has crossed the Rubicon Ben Bernanke, please try to turn back
The more I reflect on the present situation, the more I realize just how bad and serious the situation is. I have been warning about this financial collapse for years. It is a financial collapse.
Understand what has been happening here. The Fed has brought its key interest rate down to zero, but the financial system is bankrupt. Thus the Fed has recklessly expanded its balance sheet in an effort to manipulate nominal rates and the real rate of interest downwards. When a country is bankrupt, you don't want lower interest rates. The idea should be centered around trying to protect bank reserves, not squander them.
In short, we are bankrupt. We are out of gas. Rather than pulling over for roadside assistance, the Fed is saying step on the accelerator. But why is the Fed doing this? Because the entire economy is sub-prime. The system can't survive absent negative real interest rates. Based upon Bernanke's movement of the key rate between February and July of 2006, I am convinced that the system couldn't handle any increase in the real rate of interest - even a below zero one. The system has been dependent on the increase of expanding quantities of dollars.
Understand what this means. We have a bankrupt regime that can't function without a continually declining, negative real rate of interest, and the Fed's key interest rate is at zero. All the Fed has is a hammer, and every problem looks like a nail. This means the Fed has but one tool left to manipulate interest rates in the favor of its government: balloon its balance sheet. My prediction: $4 trillion Fed balance sheet by the end of 2010.
If only we can all have "free" credit, then it all "works." The problem is that there is no right way to manage inflation, which destroys capital and savings. Credit can only be diverted, but it can't be extended beyond the pool of real savings.
Fiat monetary regimes are destined to fail from the outset. Whether one blows all of their savings by the 5th of the month or the 15th of month makes little difference. The difference between running up inflation by some low number, e.g., 2%, and a number north of that, is only a matter of how quickly we go bankrupt. Over time, even the lowest amount of inflation will inevitably lead to an outflow of all capital and complete insolvency.
As the Austrian School economists, such as the late Ludwig von Mises, have explained, not only is inflation an unsustainable policy, but it takes more and more inflation to maintain the entrenched bureaucracy and false economic activity. In a futile effort to delay the day of reckoning, the monetary authorities, under the influence of the political regime, set out to re-create vanishing savings on a printing press.
If people and institutions are dependent upon inflationary credit expansion, they are, by definition, insolvent. This insolvency creates an illusion of a dollar shortage, and propaganda is designed to persuade the public that this is the problem. Gentle reader, it is a dollar leakage, not shortage. Fiat regimes have built-in leaks. The more the government pursues a policy of inflation, the worse the leak becomes, and the more the government inflates. But there is a limit to how far this inflation can go: the bankruptcy of the currency itself. One way or another the losses will be realized. The problem is that politicians are in charge of how big the losses are and who pays.
Prevailing economic orthodoxy gets the trade cycle exactly backwards. Inflation drives up the cost of capital, actually increasing dependence upon cheaper foreign markets to supply goods, i.e., engenders a negative balance-of-payments. The way to reverse this trend is not to inflate and drive down interest rates, but to raise interest rates. If we don't deal with the problem now, after the inflation kicks in, we will then have to send interest rates higher than where they otherwise would be absent central bank manipulation. And then it's a bigger collapse.
Ben Bernanke's response to the leaky bucket is to keep filling it with water. This is dangerous. The government, having access to a printing press, is now emancipated from the rule of law. There is no way to keep the present power structure intact except through the barrel of a gun, i.e., an increasingly intrusive central government. Pol Pot tried to glue together a regime of false prices. Am I saying that Ben Bernanke is Pol Pot? No. However, the present policy inevitably leads to that. If we don't turn back now, we will get more wars abroad and tyranny at home.
Mark served honorably for four years on active duty in the Marine Corps infantry, and was a Libertarian endorsed candidate for a municipal office in 2002. He has held the NFA Series 3 license (commodity futures and futures options broker) which he did a voluntary withdrawal on so that he can trade futures for his personal account. Since the year 2000, he has spent much of his free time reading the great minds of the Austrian School of economics, such as Murray Rothbard, Henry Hazlitt, Ludwig von Mises, et al.
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Mark served honorably for four years on active duty in the Marine Corps infantry, and was a Libertarian endorsed candidate for a municipal office in 2002. He has held the NFA Series 3 license (commodity futures and futures options broker) which he did a voluntary withdrawal on so that he can trade futures for his personal account. Since the year 2000, he has spent much of his free time reading the great minds of the Austrian School of economics, such as Murray Rothbard, Henry Hazlitt, Ludwig von Mises, et al.