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"Just how can the Fed credibly promise to be
irresponsible...?"
HERE'S A THOUGHT – that tiny handful of investors and analysts warning how Fed
policy risks hyper-inflation are in fact doing the central bank's work.
The Fed wants you to believe
hyperinflation is looming. Or at least, it should want that, if doubling its balance-sheet –
purchasing and lending against investment junk – is going to work the
wonders that modern central-bank theory says it can. And the Fed certainly
wants you to believe it will stop at nothing to avoid deflation
("whatever means necessary" as the chairman put it back in 2002).
So anyone touting the hyperinflation risk in public is playing the shill, a decoy –
seemingly unconnected – proclaiming the miracle powers of Dr.Ben Bernanke's snake oil to CNBC anchors at every
chance.
In fact, they're doing the Fed's work better than the Federal Reserve
itself. Really.
"The major danger with a zero lower bound for the interest
rate," said Swedish policy-wonk Lars Svensson (also a Princeton
colleague of the Fed chief and his credit-bubble associate Paul Krugman) in a speech
earlier this year, "is that inflation expectations will be too low and
even negative, and that the real interest rate will thus become too high."
With it so far? Slashing interest rates to the very minimum of 0%
suggests inflation has vanished, at least in the central bank's eyes. But
that, in turn, reduces the rate of inflation expected by consumers, investors
and business. Central banks are credible forecasters, you see. At least in
central-bank eyes. So in Svensson's philosophy, the zero-rate solution to falling
inflation proves self-fulfilling as people hoard cash and sit tight in bonds.
"It is thus necessary to...to counteract expectations of falling
inflation, and preferably to create expectations of higher inflation,"
Svensson went on. But "as Paul Krugman put it" says the Riksbank's
deputy governor, "How will the central bank 'credibly promise to be
irresponsible'...?
Heaven knows the Fed's trying. (So's Krugman, to no one's surprise.) But while it's embraced credible recklessness, the Fed's stop short
of French kissing it.
Why so coy...?
"We have a very serious recession, we have a 9.4% unemployment
rate," said San Fran Fed governor Janet Yellen in a speech in California
on Tuesday. "If we were not at zero, we would be lowering the funds
rate...We should want to do more."
Just how much further would the Fed go – all the way to
hyperinflation perhaps? Racing to first base, "The vigorous policy
actions of the Fed and other central banks, combined with sizable fiscal
stimulus here and abroad, have sent a clear message that deflation won't be
tolerated," Yellen said.
"Based on measures of inflation expectations," she went on,
an apparently reading straight from Svensson, "the public appears
confident that the Fed will adopt policies that will maintain a low, positive
rate of inflation. Evidently, the credibility that the Fed and other central
banks have built over the past few decades in bringing inflation down has
spilled over into a belief that we won't allow inflation to get too low
either."
Steady on, cheeky! Second base next, and "A glance at history shows
that many countries with massive structural deficits and without an
independent central bank turned to the printing press to pay off their
debts," Yellen continued.
Straight to third then, and "That's a recipe for high inflation
and, in some cases, hyperinflation."
Gulp, almost home! But then, somewhere between third and fourth base,
the Fed's gone shy and rebuttoned its blouse. Because "I don't believe
the United States
faces that threat," Yellen said, showing the come-on to be just one big
tease.
"Looking back in history, runaway fiscal deficits have often been
accompanied by high inflation," she explained in Tuesday's speech in the
bankrupt state of California.
"But, since World War II, such a relationship has only held in
developing countries. In countries with advanced financial systems and
histories of low inflation, no such connection is found."
Oh man, what a let down! Who's gonna put out
hyperinflation if not the Fed...?
"In order to make up for the collapse of credit, we are effectively
creating money," said George Soros, the legendary if only occasionally accurate hedge
funder, at a Washington
forum in March. "If and when credit is restarted, you would then have an
incredibly swollen monetary base, which, if it were leveraged, you would have
an explosion of inflation."
The trouble comes, as Lars Svensson guessed back in January, with that
"if and when". Because it opens the door to the idea that a central
bank might opt instead to withdraw all this new money after the deflation
panic has ended. And that in itself is enough to make creating it useless.
Pointing to Japan's
five-year experiment with 'Quantitative Easing' between March 2001 and March
2006, said Svensson, boosting the monetary base by some 70% failed to
"noticeably affect expectations of inflation and the future price level.
"For example, the Yen did not depreciate as it should otherwise
have done. Firms and households clearly believed that the expansion of the
monetary base was temporary and not permanent, which subsequently proved to
be true. The monetary base fell back to normal levels when the interest rate
was later raised to above zero."
Sure, the Bank of Japan's trillions did triple Japanese Gold Prices.
But even with gold refusing to drop back against the Dollar right now,
eagle-eyed readers will note that, quite apart from the urgent debate in
Europe, the US authorities are at pains to deny they need an 'exit plan' any
time soon. White House advisor Christina Romer made that much plain in last
week's Economist magazine, blaming the double-dip depression of 1937
on "an unfortunate, and largely inadvertent, switch to contractionary
fiscal and monetary policy." Yellen said it again Tuesday.
So Team Bernanke have got the right idea
– at least on Planet Svensson – if not the right level of
irresponsibility just yet. Slip a little vodka into their juice though, and
they might start talking up inflation like Alan Greenspan, Bernanke's
predecessor and the Maestro himself, writing last week in the Financial Times. He tried to spook everyone out of cash and into
the stores by warning of a decade of inflation ahead!
"A pending avalanche of government debt is about to be unloaded
on world financial markets," Sir Alan of Greenspan warned sagely, almost
visibly winking from behind those enormous spectacles. "The need to
finance very large fiscal deficits during the coming years could lead to
political pressure on central banks to print money to buy much of the newly
issued debt."
Or given enough sauce to get really loose, the Fed might even get
crazy like Asia-based doomster Dr.Marc Faber. (He's been known to enjoy the odd cocktail or two.) Stop warning on hyperinflation. Just come out and
say it instead.
"I am 100% sure that the US will go into hyperinflation," as
Faber told Bloomberg in late May, and again on June 29th. "The US central bank has structured and
introduced policies without considering exponential credit growth and its
consequences," added the Gloom,
Boom & Doom author in an interview with the Korea Times on Wednesday.
See what I mean about being a shill? It's like he's on the payroll...
"The United States will not raise interest rates for many years to come
because it needs to pay off its huge debts," he went on, recommending
inflation-friendly assets such as equities and Gold Bullion. "In turn,
too much money in the economy will raise costs of everything, including
healthcare and education, giving rise to hyperinflation."
There, now that's the way to do it! Greenspan and Faber on song, while
the Bernanke Fed tip-toes around stating its aim:
Spark inflation and leave it to burn. Because putting it out worsened both the Great
Depression and Japan's "lost decade" – the one that started
two decades ago and hasn't yet ended. Everyone who's anyone in monetary
theory knows that.
And if they claim otherwise, maybe they're the ones kidding.
Adrian Ash
Head of Research
Bullionvault.com
All
articles by Adrian Ash
City correspondent for The Daily Reckoning in London,
Adrian Ash is head of research at www.BullionVault.com – giving you direct access to investment gold, vaulted in Zurich, on $3 spreads
and 0.8% dealing fees.
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