On November 3, 2010 the Federal Reserve Board announced another round of money printing (aka quantitative easing), and yesterday Chairman Bernanke defended the Fed's actions in the Washington Post. It is unusual for Mr. Bernanke to use the op-ed format to impart the Fed's thought process. This speaks to the fact that while so many are aware of the risks of QE2, so few see the potential benefits. Before some thoughts on QE2, first an overview of Bernanke's commentary.
Is Bernanke Disingenuous or Delusional?
Mr. Bernanke started by contending that "with unemployment high and inflation very low, further support to the economy is needed." (WP Link) He then proceeded to laud the Fed's latest scheme:
"This approach [QE] eased financial conditions in the past and, so far, looks to be effective again. Stock prices rose and long-term interest rates fell when investors began to anticipate the most recent action." [Bolds added]
Realizing that boosting stock prices was not what the Fed claims to be the motivation behind QE2, Bernanke added that "easier financial conditions will promote economic growth", and that "lower mortgage rates will make housing more affordable and allow more homeowners to refinance. Lower corporate bond rates will encourage investment." Curiously, Mr. Bernanke did not try to explain why asset prices and interest rates have already responded to QE2 but very little (if any) benefits can be viewed with regards to the housing market and corporate investment. Rather, he ended his tortuous pro-QE2 paragraph with the following:
"And higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion."
In responding to the wild build up to QE2 - i.e. the currency wars, the threat of protectionism, and an ominous increase in commodity prices - Bernanke offers a rudimentary discussion of the wealth effect. Utterly astonishing.
Finally, in trying to portray an aura of objectivity Mr. Bernanke explored some of the potential negatives of QE2.
"Although asset purchases are relatively unfamiliar as a tool of monetary policy, some concerns about this approach are overstated. Critics have, for example, worried that it will lead to excessive increases in the money supply and ultimately to significant increases in inflation."
The so called 'critics' of QE2 have done a lot more than worry about traditional (government reported) measures of inflation (which, by definition, is an increase in the money supply), but I digress.
"Our earlier use of this policy approach had little effect on the amount of currency in circulation or on other broad measures of the money supply, such as bank deposits. Nor did it result in higher inflation."
Notice here how Bernanke tries to limit the parameters of discussion and then cherry pick a single moment in history to validate his point of view. In other words, 'don't worry about inflation because the last time we fired up the printing presses deleveraging and financial destruction all but negated the expected inflationary effects!' It would be worth calling this tact savvy if it were not for the fact that is so obviously desperate. Quite frankly, by attempting to selectively compare QE2 to QE1 Bernanke unwittingly opens a discussion that eviscerates the Fed's pretext for printing. Allow me to explain:
When the Fed first unleashed money printing in March 2009 the G-20 had just ended and central bankers were, albeit some begrudgingly, in nearly universal agreement that they would do whatever it would take to get growth back on track. Moreover, at the time asset prices (i.e. equities and housing) were falling rapidly, credit conditions were exceptionally tight, the price of gold was trading flat, and Bernanke himself was trying to justify money printing as 'credit easing' rather than quantitative easing. In short, in March 2009 money printing was warranted* and with so many global policy makers acting in unison Bernanke could print safe in the knowledge that a U.S. dollar collapse was off the table.
Flash forward to today: no major global actor (saver perhaps Japan) is on board with the U.S., and, notwithstanding the threat of deflation, there is absolutely no immediate need for emergency money printing. As for the notion that the Fed must print money to create jobs, history suggests that printing money is more linked to creating financial turmoil than producing wealth and jobs. Forget about validating this observation back to Rome, and instead consider Bernanke's preferred sampling of history - how many jobs have been created since the Fed started QE?
In short, Bernanke's commentary in the Washington Post failed miserably to explain why QE2 is a good idea. This historic op-ed has the potential to usurp Mr. Bernanke's memorable 'the Fed owns a printing press' speech as being the most preposterous.
Incidentally, what Bernanke fails to mention is that if he was in charge of almost any other central bank on the planet his policies would have already triggered a financial calamity. To be sure, USD hegemony - or the platform that allows Bernanke to dally in the land of ludicrousness - is the only topic that is worthy of discussion when the Fed elects to print. Is the very last of the last resorts, debasing the monetary unit, really justified Mr. Bernanke? It is difficult for Mr. Bernanke to answer this question given that he never asks it...
* This is not to suggest that 'money printing' is preferable to enacting sound money policies (or getting rid of the Fed completely), only that under the current system if ever the need for money printing was apparent it was in early 2009.
The Rundown On Bernanke's Smackdown
With QE2 Bernanke is essentially daring the world to get off the dollar. He has adopted this tact because he knows, or thinks he knows, that the world is not ready to abandon the dollar. For the time being Mr. Bernanke is probably right.
This said, it would be naive to conclude that the Fed is undertaking money printing because it believes that lower interest rates and rising stock prices will be the only result. Rather, the Fed's unspoken goal with QE2 is to devalue the dollar, or as James Grant put it, "the economy is not measuring up, and the Fed is going to change the ruler".
The primary danger with attempting to devalue the dollar is the dollar overshoots on the downside and/or the Fed loses its ability to print money at will. Bernanke refuses to mention much less entertain this danger directly, instead preferring to discuss 'inflation'. The problem here is that if the U.S. economy remains weak for some time, traditional inflationary pressures may seemingly stay at bay even as the foundations that support the dollar continue to be undermined by unsound monetary and fiscal machinations. Currency collapses are not forecasted by the monthly inflation readings, but instead tend to erupt from the guise of dormancy all at once.
* As the Fed prints money this provides added motivation for the global economy to seek out alternatives to USD.
Bernanke is well aware that QE2 will further motivate central bankers to explore substitutes to the U.S. dollar. For that matter, Bernanke must know that the price of gold is up by nearly 200% since he was nominated to be Fed Chairman, and that the Fed's reputation/survival is now on the line if another crisis unexpectedly arrives (due to expended all of its ammo). For lack of batter way of putting it, Ben does not seem to care. Rather, Bernanke is so blinded by the idea that preventing deflation and/or another Great Depression is his purpose in life that a resistant world is seen as merely an irritating obstacle rather than a roadblock.
If 'success' is defined by a falling dollar and potentially dangerous/unsustainable increases in asset prices, QE2 may well succeed over the short term. However, with the haunting ruins of two historic U.S. asset bubbles in the rear view mirror, it is unlikely asset prices can rise enough to fully combat the deleveraging theme. For that matter, it is even more unlikely that the dollar can be weakened so precisely as to engender a lasting export-inspired boom. Accordingly, beyond the faint hope of launching another debt/asset bubble boom, the best Bernanke can hope for is that when the new global currency regime is being contrived the U.S. still demands a seat at the table.
The Blame Game Stops While The Speculations Continues
The sole positive to be taken from QE2 is that when the next financial crisis arrives Bernanke and company will not be able to offer inane 'savings glut' theories to deflect criticism for their irresponsible policies. To be sure, the Fed continues to print money, the Fed is encouraged that asset prices are rising as a result, and the Fed is undertaking 'huge risks' despite widespread protest. Should, and more likely when, these policies fail to produce the desired results, Bernanke will be to blame.
As for the future of USD hegemony, awhile ago I started writing a commentary on the end of USD that never made it out (a few paragraphs are posted below). I could post 5-more such speculations tomorrow, each with slightly different threads of thought, and the topic at hand would barely be scratched much less fully appreciated. The end of USD hegemony is an event like no other and, like it or not, every investor must continue to monitor what continues to look like the U.S. dollar's inevitable demise. And while perhaps still years away, thanks to Bernanke's dare we are undoubtedly much closer to the end of USD than we were on November 2, 2010.
Some notes on the end of USD Hegemony (previously unreleased and undated)
As ridiculously wrong U.S. policy makers have been about almost everything in recent decades, they would be right to start mapping out contingency plans for when the USD takes its final spin around the global economy. Extreme as it may seem, one such scenario as the dollar's days become numbered, would be to print the currency into complete oblivion, pay everyone back with these increasingly worthless pieces of paper, close the borders, and then announce a strong intention to negotiate a new currency regime. Perhaps after a few more years of laying the groundwork the U.S. - which tries to blame everyone else for their financial problems - can spin blowing up the dollar as a natural reaction to the non amiable currency policies in China.
Another option would be to use novel/ fairly unethical means to ensure debt risks are financially engineered out of existence. As farfetched as this plan might sound, remember that the U.S. government didn't run public companies and the Fed didn't own shopping malls and car loans before the crisis arrived. Is it really a stretch that the Fed becomes a covert hedge fund with unlimited powers terrorizing markets the world over to produce secretive profits? If Goldman and others can produce profits every single day why can't they Fed?
As outrageous as these policy choices might appear, it is worth noting that an unlikely long-term outcome is present trajectory - or the steady demise of America contrasted against the steady rise of other nations (i.e. China, India, Brazil, etc.). Why? Because this type of scenario - where everyone plays somewhat fairly and the least debt laden/most innovative economy wins - is a contest the U.S. no longer appears capable of winning...