The Honorable Ben S. Bernanke
Chairman
Board of Governors of the Federal Reserve System
20th Street & Constitution Avenue, NW
Washington, DC 20551

Dear Chairman Bernanke:

The greatest looming threats for our country are the budget deficit and the off-balance sheet liabilities of Medicare and Social Security. Indeed, on numerous occasions you have spoken about these liabilities. Just recently, on April 7th, you said:

The economist Herb Stein once famously said, 'If something cannot go on forever, it will stop.' That adage certainly applies to our nation's fiscal situation. Inevitably, addressing the fiscal challenges posed by an aging population will require a willingness to make difficult choices. The arithmetic is, unfortunately, quite clear. To avoid large and unsustainable budget deficits, the nation will ultimately have to choose among higher taxes, modifications to entitlement programs such as Social Security and Medicare, less spending on everything else from education to defense, or some combination of the above. These choices are difficult, and it always seems easier to put them off--until the day they cannot be put off any more. But unless we as a nation demonstrate a strong commitment to fiscal responsibility, in the longer run we will have neither financial stability nor healthy economic growth.

Clearly you understand that these liabilities are unsustainable. Given that there is little political will to confront these liabilities, the US Government, in concert with the Federal Reserve, will be forced to either explicitly default on these obligations or to implicitly default by inflating the obligations away by monetizing the national debt. We believe that you are aware that these are the only two realistic outcomes. Both scenarios will be devastating to those currently chasing asset markets in response to Federal Reserve policy. This is why we are writing to you.

We have had and continue to have a negative view on the US economy because of the Government's financial state and the imbalances of the economy that have been fostered by Federal Reserve monetary policy. However, in light of the meteoric rise in asset markets that began in March 2009, investors and commentators seemingly have concluded that the worst of the United States' financial problems has passed, and therefore are aggressively seeking risk. In contrast to this consensus view, we believe that 0% interest rates and quantitative easing have created another bubble in asset markets. This bubble comes at a time when the market's tolerance for unsustainable Government borrowing is shrinking rapidly, thus adding immeasurable risk to stocks and bonds.

Just as Congress and the President have gone all-in to prop up a broken economy, the Federal Reserve's policies have forced savers to also go all-in by buying equities and bonds to offset the miniscule returns offered by savings accounts. The municipal bond inflows in 2009 are noteworthy. The Investment Company Institute indicates that 2009 total municipal bond fund inflows were $69 billion, which is more than the $47 billion combined total of the prior eight years. Remarkably, the record demand for municipal bonds comes at a time when municipalities are in their worst financial shape in decades. Yet, because of low interest rates, retail investors are aggressively buying fixed income assets in search of any yield that beats their bank account's return.

Participants in the current rally in equity and fixed income markets will suffer greatly if the US defaults or chooses to monetize its debts. Although the Federal Reserve is boosting market confidence with the promise of low interest rates for an extended period of time, if markets fear default, like they did in Greece, both short- and long-term interest rates will rise. The consequence of rising interest rates will be immediate losses on financial assets. If instead, you choose to further monetize the national debt, the vast majority of investors will lose significant purchasing power. Additionally, retail investors, presumably buying fixed income assets under prudent assumptions, will be completely wiped out by inflation. Therefore, we ask of you, on behalf of the citizens of this country, to change your bubble-inducing monetary policy, if for no other reason than to prevent further risk-taking.

The current and future liabilities of the US Government were created by Congress and past Presidential administrations, not by the Federal Reserve. In the past, both you and the Federal Reserve have claimed that bubbles cannot be identified prior to their bursting. However, neither you nor the Federal Reserve can claim an inability to foresee, today or in the future, the negative consequences of the US Government's rising liabilities. If you are unwilling to take the necessary actions that will give Americans the opportunity to preserve their wealth, please step aside for someone who will. If instead you choose to stay the course, the citizens of this country will suffer greatly.

Respectfully,

Daniel Aaronson      Lee Markowitz