Archive for The Fed

The Fed at One Hundred: A Critical View on the Federal Reserve System

fedbookSome great contributors. This might even be worth the high price:

Including contributions from David Howden, Guido Hulsmann, Thomas DiLorenzo, Thomas Woods, Robert Murphy, Shawn Ritenour, Jeffrey Herbener, Mark Thornton, William Barnett, Peter Klein, Lucas Engelhardt, and Douglas French.

The book was edited by David Howden and Joseph Salerno, and includes a forward by Hunter Lewis.

Joe Salerno discussed the book at the most recent Austrian Economics Research Conference.

Jim Grant: “The Federal Reserve Has So Little Self-Awareness…”

…it un-ironically wonders aloud who’s been suppressing volatility and compressing yields. “Who could it be who’s been doing that?” Grant asks.

Grant notes there are some investment opportunities in Russia and then says “One form of investment that is almost as thoroughly hated as Russia is gold and gold mining shares.” He then explains that gold “is a sound inoculation against the harebrained doctrine of modern central bankers,” and important when dealing with “the likely crackup” of modern monetary arrangements.

How to Start Reforming the Federal Reserve Right Now

6817Mises Daily Wednesday by Brendan Brown:

All too many of the reforms being proposed for the central bank are just more of the same central planning. Real reform of the Fed begins with setting interest rates free, the abolition of deposit insurance, and ending the Fed’s position as lender of last resort.

Why Timid Reforms of Central Banks Won’t Work

Euro banknotes with chain and padlock on white backgroundMises Daily Monday by Frank Hollenbeck:

Those who are calling for small reforms like changes to the Fed’s dual mandate are wrong. It is now clear that the Fed and the European Central Bank are hard-wired to inflate the money supply while encouraging banks to make excessively risky loans. Radical changes are needed

Germany Reneges on Request for its Gold

7361342500_a62d22db19_zGermany has now decided that its gold is safe in the hands of the Federal Reserve after all. The budget spokesman for Angela Merkel’s Christian Democratic Union party, Norbert Barthle, said “The Americans are taking good care of our gold.” Germany initially made the request in January of 2013 after attempts to inventory the gold in 2012 were rebuffed. Juergen Hardt, also from the Christian Democratic Union party told reporters in May that there was no concern that German gold in the New York Fed has been tampered with. “It’s my view that the gold reserves should be stored wherever they might be needed in an emergency.” Of course Germany has never seen or possessed its gold. It obtained the gold in exchange for its surplus dollars in international trade prior to the breakdown of the Bretton Woods system. So I guess there really is no cause for concern.

Jeff Deist Explains How The Fed Distorts Everything

Jeff Deist discusses how the Fed creates a perilous landscape in which there is no honest pricing—everything has been distorted—even at the consumer level.

Why the Fed Is Nothing to Celebrate

6787Ben Wiegold writes in Mises Daily Monday:

The Federal Reserve System turned 100 years old last December and Fed supporters have been celebrating ever since. In recent months, the Dallas Fed opened an historical exhibit, the Kansas City Fed released a documentary, and the New York Fed even started a Facebook page, all to commemorate the date.

The mainstream media has also been vocal, as CNN posted a piece claiming Janet Yellen’s becoming the first female chair is an “apt way to mark the anniversary,” while National Reviewpublished an article of their own. Although the two outlets differ on politics, it seems nearly everyone agrees the Fed has fulfilled its purpose: grow the economy and prevent economic downturns.

Oil, Gas, Inflation, and Cheap Money

-Boom_Town_ballyhoo-_-_sponsored_by_the_A&R_Department_-_at_the_Post_Gym_LCCN98513372.tifToday’s Mises Daily article covered the impact of government subsidies and infrastructure on the fracking boom. But there is another big player in the oil and gas boom that is routinely ignored by “energy independence” enthusiasts who claim the sky is the limit for fracking: cheap money from the central bank.

Energy companies are employing massive debt schemes to finance exploration and initiation of extraction plans. According to Bloomberg

Quicksilver acknowledges the company is over-leveraged, said David Erdman, a spokesman for Quicksilver. The company’s interest expense equaled almost 45 percent of revenue in the first quarter. “We have taken concrete measures to reduce debt,” he said.

Drillers are caught in a bind. They must keep borrowing to pay for exploration needed to offset the steep production declines typical of shale wells.

“Interest expenses are rising,” said Virendra Chauhan, an oil analyst with Energy Aspects in London. “The risk for shale producers is that because of the production decline rates, you constantly have elevated capital expenditures.”

Chauhan wrote a report last year titled “The Other Tale of Shale” that showed interest expenses are gobbling up a growing share of revenue at 35 companies he studied. Interest expense for the 61 companies examined by Bloomberg totalled almost $2 billion in the first quarter, 4.1 percent of revenue, up from 2.3 percent four years ago.

Yes, “interest rates are rising,” but they’re still extremely low in the big scheme of things, thanks to the unending new money flowing from central banks. Even with rising rates, however, fracking operations, in order to remain viable, will need to keep borrowing since, as it turns out,  fracking is extremely expensive. Bloomberg explains:

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What Henry Hazlitt Can Teach Us About Inflation in 2014

6772Mises Daily Monday by James Grant:

In 1946, as now, the government held up the threat of deflation to justify a policy of ultra-low interest rates. Hazlitt, a student of Mises, exposed the folly of this position in the pages ofNewsweek and elsewhere for more than twenty years. Little has changed since Hazlitt’s day.

The Birth of the ‘Marijuana Bank’

6020555126_c6becb4873_zIt may be a stillbirth. As mentioned here and here, banks refuse to conduct business with legal cannabis-related businesses in Colorado because federal regulations prohibit banks from doing business with merchants who deal with substances deemed illegal by the federal government.

In response, the Colorado legislature passed legislation providing for the creation of “marijuana banks”:

Gov. John Hickenlooper has signed legislation to try to establish the world’s first financial system for the largely cash-only marijuana industry.

The bill signed Friday morning seeks to form a network of uninsured cooperatives designed to give pot businesses a way to access basic banking services.

Banks that fear violating federal law don’t allow marijuana businesses access to basic financial services. That has led to fears that the burgeoning marijuana industry can be a target for robberies.

Here we see a state government attempting an end run around federal regulations. It’s a mild form of nullification at work. Unfortunately, the nature of the new banks requires the Federal Reserve to sign off on the plan, which possibly ensures the plan will never come to fruition.

In much of the country, politicians still seem to think that the legalization of cannabis is some sort of dangerous social experiment (even though cannabis was legal pretty much everywhere on earth prior to the 1930s), but in Colorado, within 18 months of the voter-forced legalization taking effect, people who oppose legalization are now considered the eccentric ones.

“We are trying to improvise and come up with something in Colorado to give marijuana business some opportunity,” remarks one conservative Republican. “This is not something that we can wait for any further,” says a Democrat.

Meanwhile, a member of Congress from Colorado has introduced the Marijuana Businesses Access to Banking Act of 2013 in DC.

Photo credit: DJ Spiess

Mises Daily: The Fed Won’t Let the Economy Heal

6773Mises Daily Friday:

Contrary to popular thinking, an economic cleansing is a must to “fix” the mess caused by the Fed’s loose policies. To prevent future economic pain, what is required is the closure of all the Fed’s means of creating money out of “thin air.”

 

Speaking Truth to Monetary Power

6760Lew Rockwell writes in today’s Mises Daily:

We do not need “monetary policy” any more than we need a paintbrush policy, a baseball bat policy, or an automobile policy. We do not need a monopoly institution to create money for us. Money, like any good, is better produced on the market within the nexus of economic calculation. Money creation by government or its privileged central bank yields us business cycles, monetary debasement, and an increase in the power of government. It is desirable from neither an economic nor a libertarian standpoint. If we are going to utter monetary truths, this one is the most central and subversive of all.

Yellen to End QE Someday, Maybe

126px-US-FederalReserveSystem-Seal.svgJanet Yellen spoke to lawmakers today. After making it very, very clear that bad weather is the cause of the lackluster economy,  Yellen then went on to confirm that the Fed will wind down quantitative easing (specifically, the bond-buying stimulus program) seven months from now if ”the labor market continues to improve and inflation remains low.”

Yellen is clear that if the Fed concludes that things are just right somewhere down the line, the Fed may or may not reduce bond-buying to zero. Even then, however, the Fed’s commitment to low interest rates remains in force indefinitely, we’re told.

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Imagine if We Had Free Prices!

If you were asked how we should go about achieving real economic growth throughout the economy rather than just certain sectors of it, what would you suggest?  Would you revisit the Keynesian toolbox and call for a really, really big stimulus instead of just another really big one?  Would you impose more controls on business, especially the financial sector?  Some people want to revive Glass-Steagall, the gem from the Depression era that was abandoned in 1999 — sound good to you?.  How about officially merging the Fed and the Treasury — i.e., turn “monetary policy” over to the government?  Perhaps you’d break out Sheila Bair’s plan to allow each American household to “borrow $10 million from the Fed at zero interest”? Her proposal was tongue-in-cheek, you say? Ms. Bair, the former head of the Federal Deposit Insurance Corporation, proposed a plan that in its essentials would be received enthusiastically by those in the know —  provided it was confined to special interests. But if it’s good for some, why not everyone?

“Look out 1 percent, here we come,” Ms. Bair trumpeted.

Many readers are familiar with the anecdote about a 1681 meeting between French finance minister Jean-Baptiste Colbert and a group of businessmen that included one M. Le Gendre.  Colbert, a mercantilist, was eager for industry to prosper because it would boost tax revenue . . . sort of a fatten-the-goose approach to economics.  When he asked how their government could be of service to the business community, Le Gendre famously replied, “Laissez-nous faire” — “Let us be.”

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The Hidden Motive Behind Quantitative Easing

220px-Marriner_S._Eccles_Federal_Reserve_Board_Building Foreign individuals and businesses long ago cut back on their purchases of U.S. bonds. Their place was taken by foreign central banks. The central banks simply created money in their own currency and used it to buy our bonds.

The Federal Reserve always knew that we couldn’t rely on foreign central banks to buy our bonds forever. This may be the main reason it began the program called quantitative easing, in which the Fed created money out of thin air specifically to buy back U.S. debt.

Quantitative easing may have been intended to be a kind of insurance policy. If foreign central bank buying of U.S. bonds collapsed, the Fed would already have a program in place to buy them back itself.

The Fed  said that quantitative easing was meant to create U.S. jobs, but this never made much sense. Even a hard core proponent of QE, Fed official William Dudley ( formerly of Goldman Sachs), admitted that the Fed’s own economic models could not explain how creating money out of thin air and using it to buy U.S. bonds would increase employment. Some link to rising stock prices could be demonstrated, if only through the cheap financing of corporate stock buy-backs, but then rising stock prices could not be shown to create jobs either.

One inference from this was that chairman Ben Bernanke, and now new chairman Janet Yellen, were just taking wild stabs in the dark. A more reasonable inference is that they had another reason for QE, one which they did not want to acknowledge.

Viewed in this way, the 2008 bail-out should be viewed not as a bail-out of Wall Street, but rather  as a bail-out of Washington. The Federal Reserve feared that the market for government bonds was about to collapse, which would lead to soaring interest rates, and a complete collapse of our bubble financed government.

The Fed did not have the option of creating money and buying debt directly from the Treasury. That would be illegal. The Treasury must first sell its bonds to Wall Street, after which the Fed can then use its newly created money to buy them back. Hence, in order to rescue the Treasury, the Fed felt it had to rescue Wall Street.

This is a simplification of what happened, and only part of the story, but it is the untold part of the story, and in all likelihood the most important part. The Fed was in a panic in 2008, but not primarily about what might happen to Wall Street, and certainly not about what might happen to Main Street. It was in a panic over what might happen to government finance.

This interpretation is strengthened by new information contained in former Treasury secretary Hank Paulson’s recent book. He revealed that Russia tried in 2008 to persuade China to join in a collaborative effort to dump U.S. bonds in order to bring down the U.S. financial system. Although China refused to do so at the time, its government would clearly like to end dollar dominance, and has  been paring U.S. bond purchases.

At the moment,  Janet Yellen’s worries about finding buyers of government bonds can only be getting worse. For much of last year, foreign central bank purchases of U.S. bonds in aggregate fell. As of October of 2013, they had been negative for three and six months. Then they turned up a smidge, only to fall again, so that the last three months show a decrease of just over 12%.

It is known that Russia withdrew its U.S. bonds from custody of the Fed after the Crimea invasion, and has either been selling or could sell at any time. It will no doubt try again to persuade other countries to join in undermining the U.S. bond market and replacing the dollar as the mainstay of world trade.

Under these circumstances, it should not be surprising that the Fed is today taking only baby steps to reduce its program of creating new money to buy U.S. bonds. This program is probably not just meant to revive the economy, which it has not done and cannot do. It is more likely designed as a desperate and in the long run counterproductive effort to finance the U.S. government and save today’s dollar dominated financial system.

‘Everything we are told about deflation is a lie’

By Tim Price

[The Cobden Centre]

“The European Central Bank has given its strongest signal yet that it is prepared to embrace quantitative easing to prevent the euro zone from sliding into deflation or even a prolonged period of low inflation.”

- ‘Draghi strengthens QE signal’, Financial Times, April 4, 2014.

Yes, heaven protect Europe’s embattled citizens and savers from a prolonged period of low inflation. How could they possibly survive it ?

If history is any guide, probably quite well. As Chris Casey points out in his essay “Deflating the Deflation Myth,” the American economy during the 19th Century twice experienced deflationary periods of roughly 50 percent:

Source: McCusker, John J. “How Much Is That in Real Money?: A Historical Price Index for Use as a Deflator of Money Values in the Economy of the United States.” Proceedings of the American Antiquarian Society, Volume 101, Part 2, October 1991, pp. 297-373.

This during a period of “sustained and significant economic growth”. But just think of all those poor consumers, having to make the best of constantly falling everyday low prices.

In their research article ‘Deflation and Depression: Is There an Empirical Link?’ of January 2004, Federal Reserve economists Andrew Atkeson and Patrick Kehoe found that “..the only episode in which we find evidence of a link between deflation and depression is the Great Depression (1929-1934). We find virtually no evidence of such a link in any other period.. What is striking is that nearly 90% of the episodes with deflation did not have depression. In a broad historical context, beyond the Great Depression, the notion that deflation and depression are linked virtually disappears.”

In his 2008 essay ‘Deflation and Liberty’, Jörg Guido Hülsmann writes as follows:

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For More Jobs and Stability, Set the Economy Free

6718John Cochran writes in today’s Mises Daily:

Unfortunately Yellen’s strong compassion for the plight of the unemployed comes tied to a faulty understanding of the cause of unemployment. With Yellen’s ascendency to the Chair of the Fed, the Wall Street Journal notes the “Tobin Keynesians are back in charge at the Federal Reserve.” The last time this group’s Phillips Curve-based ideas dominated Fed policy, the Fed engineered the stagflation of the 1970s. Exhibiting a lack of historical understanding, sympathetic cheerleaders such as Justin Wolfers see Yellen’s commitment to the dual mandate as a plus.

Yellen’s appointment should be viewed as an investment in the Fed’s dual mandate, which emphasizes the central bank’s role in taming both unemployment and inflation. The unemployed should rejoice that they have a powerful advocate willing to battle the hard-money types willing to consign them to the economic scrap heap.

The Fed Is Not Following The Law

799px-Handcuffs01_2003-06-02Some of the games being played behind closed doors by the Fed are not only troubling. They are not even legal.

It was a clear violation of Section 14 (B) of the Federal Reserve Act for the Fed to respond to the Crash of 2008 by buying $1.5 trillion of mortgages not guaranteed by the federal government. The agency hid behind Section 13.3 language allowing a broad scope of action under “unusual and exigent circumstances,” but the statute states clearly that Section 13.3 loans can only be short term and backed by high quality collateral, a requirement that was blatantly ignored.

It was also a violation of both the Fed statute and the Constitution to offload potential Fed losses from its hedge fund-like operations onto the Treasury, as was done stealthily via a note to the Fed’s Statistical Release H 4.1 dated January 6, 2011. The notion of the Treasury (i.e. The taxpayers) having to bail out the Fed is not just a theoretical possibility. The Fed’s annual report just released shows a $53 billion unrealized loss.

It would also appear to be a violation of the Constitution to locate the new Consumer Financial Protection Bureau created by the Dodd-Frank Act inside the agency. The Constitution requires that all government expenditures be authorized and funded by Congress. The Fed has always been treated as an exception. It uses income on securities it has bought with newly created money to pay its bills and has not even been subject to Congressional oversight.

Having a secretive, self-funded, extra-constitutional agency inside government was bad enough when the Fed consisted of seven governors and a few staff members. The new Consumer Bureau already employs an estimated 1,359 people and keeps growing. Many of these employees were transferred from other government agencies where they formerly had been counted as part of the federal budget, but are now suddenly off-budget. If this is allowed to stand, what other federal agencies will be slipped inside the Fed in future in order to reduce the reported Federal deficit?

Some of the Fed’s actions since the Crash have been perfectly legal, but also designed to escape detection by the press and public. For example, in the dark days of the 2008 crash, a provision was buried deep in the TARP bill passed by Congress authorizing the Fed to pay interest to banks on their lending reserves. This made it legal for the Fed to print money and hand it over to the banks in unlimited amounts. One wonders how many members of Congress were aware they were passing this?

Today the Fed pays ¼ of 1 percent interest on trillions of dollars of unused bank reserves. An estimated 37% of that is paid to foreign banks. This is a grey area legally. One wonders how many members of Congress know about it.

During the Crash itself, as much as 70% of Fed discount window loans seem to have gone to foreign banks at rates as low as 0.01%. In other words, we made huge gifts to foreign banks.

If the economy gets overheated, the Fed says that it will simply increase the interest it is paying on bank reserves to ensure that those reserves aren’t turned into loans to business and consumers. But the more money that is created to pay interest on unused reserves, the bigger the unused reserves become. In typical government style, a problem will be alleviated short term only at the cost of making it worse in the future.

After reading this post, you might conclude that someone should sue the Fed over its illegal actions. Unfortunately taking the Fed to court is easier said than done. Under federal law, you must have “standing” to sue. Ordinary citizens are deemed not to have standing. Under recent court decisions, even banks do not seem to have standing, despite their being regulated by the Fed.

Fed illegality can best be addressed by Congressional action. Congress created the Fed and can reform it or even shut it down. There are critics of the Fed in Congress, but not nearly enough of them. And there are reasons why Congress mostly leaves the Fed alone.

It is the Fed that backstops federal deficit spending. Without the Fed, government could not continue indefinitely spending more than its tax revenue. So long as politicians think they benefit from the expansion of government and runaway spending, they will not want to reform the Fed.

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Deflating the Deflation Myth

Burst your bubbleChris Casey writes in today’s Mises Daily

If deflation does not cause recessions (or depressions as they were known prior to World War II), what does? And why was it so prominently featured during the Great Depression? According to economists of the Austrian School of economics, recessions share the same source: artificial inflation of the money supply. The ensuing “malinvestment” caused by synthetically lowered interest rates is revealed when interest rates resort to their natural level as determined by the supply and demand of savings.

In the resultant recession, if fractional-reserve-based loans are defaulted or repaid, if a central bank contracts the money supply, and/or if the demand for money rises significantly, deflation may occur. More frequently, however, as central bankers frantically expand the money supply at the onset of a recession, inflation (or at least no deflation) will be experienced. So deflation, a sometime symptom, has been unjustly maligned as a recessionary source.

Ben Bernanke Gets His Reward

6700Christopher Westley writes in today’s Mises Daily: 

“Bernanke Enjoys the ‘Fruits of the Free Market,’” or so we’re told in a Reuters headlinefrom March 4 about the former Fed chairman’s 40-minute speech in Abu Dhabi for which he received, ahem, $250,000. In the Reuters author’s defense, he was only quoting a DC lobbyist who was defending the amount, and added, Bernanke “will personally experience supply and demand.”

Well, yes, it’s just supply and demand and all that. No big deal and if you don’t like it, you must have something against markets. Still, it would be nice (and a bigger deal) if these reporters would quote someone outside of the accepted intellectual class of the Boswash corridor so compromised by being among the primary beneficiaries of all the new money Chairman Ben and his comrades created, ex nihilo, when he wasn’t shooting baskets in the Marriner Eccles building. If they did, they might hear some healthy skepticism about these events in which top officials cash in on their “public service” via contacts with the very industries they benefited while in office.