United Liberty

I recently read an article written by former Fed economist Richard Alford over at Naked Capitalism. He focused his criticism on the zero interest rate policy (ZIRP) currently deployed by the Fed under the watch of Chairman Ben Bernanke. There has been increasing noise surrounding ZIRP and more mainstream suggestions that interest rates were too low for too long between 2001 and 2006.

Alford’s article gets into quite a bit of detail, but it is worth a read if you enjoy geeky economics stuff. Mainstream macroeconomists believe that the economy can be explained and managed with mathematical formulas. In fact, the formulas are really quite simple and do not capture the dynamics of the millions of “irrational” actors therein. One favorite is the Taylor rule which suggests a target for the Fed funds rate - the key interest rate set by the central bank. Alford points to a Taylor op-ed which states that rates were too low from 2002-2005.

Bernanke has suggested that rates necessarily had to be low (and must stay low) to fend off the threat of deflation. When analyzing Bernanke’s definition of deflation, however, Alford suggests deflation was never a threat. Thus, interest rates were lower than they “should have been” for no good reason.

Once again, Bernanke is the object of my funny bone. The day is coming soon when his mettle will be tested.

Ben Bernanke is showing himself to be more of a Big-Government politician than a scientist. In his latest speech, he has tried to defend the actions of his predecessors by claiming that their easy-money monetary policy only holds five percent of the responsibility for the high real estate prices that ignited the boom-and-bust bubble that almost broke the back of the global economy.

According to his analysis, 30 percent of the responsibility goes to what he has been calling the “global savings glut.” The other 65 percent, he says, belongs to the inferior standards of the US mortgage market. Therefore, his argument seems to be saying that if we cure the standards we cure the problem.

He attempts to prove his point by demonstrating through charts that other countries had even looser monetary policy than the US, and yet they did not show a worse real estate boom; therefore, he concludes, loose monetary policy does not cause bubbles.

This sounds convincing, coming as it does from the highest-placed economic academician in the land. But his logic is flawed.

There are two problems with his argument. First, you cannot isolate these particular variables as he has done. To do so is the equivalent of saying Michael Phelps eats a lot, and he is not obese, therefore a high-calorie diet does not cause obesity. (Michael Phelps is the Olympic medalist swimmer who purportedly eats around 8,000-10,000 calories a day. A scientist could probably prove that he also spends almost 8,000-10,000 calories a day in his sports activities.)

In a most insightful commentary published in the Financial Times of last Wednesday, Martin Taylor, himself a former banker, quipped:

“All business people know that you can carry on for a while if you make no profits, but that if you run out of cash you are toast. Bankers, as providers of cash to others, understand this well. They just do not believe it applies to their own business.”

The reason bankers have trouble judging their own cash flow, he writes, is that “[i]n general, banks have no measures of cash flow that work for banking.” He describes (with a great sense of humor) how bankers got us into this Great Recession by paying out “colossal accounting profits” in cash that were “largely imaginary…. Not only has the industry—and by extension societies that depend on it—been spending money that is no longer there, it has been giving away money that it only imagined it had in the first place. Worse, it seems to want to do it all again.” (He’s referring to the banking bonuses, which are at a new high.)

He ends the piece perfectly:

“How depressing the shame and folly of it all is, when one considers that the system was brought down not because risk management was deficient (though it was), nor because greed was rampant (though it was), but because bankers could not count. Merry Christmas.”

This really states it all in one newspaper column.

Last week, two experts on the Treasury and the Fed gave a very interesting talk about the two entities’ balance sheets. This is especially timely as the President is talking about applying the “leftover” TARP money to a new stimulus venture, and the Treasury is about to vote federal employees an unconscionable pay raise.

This conference was sponsored by the Cleveland-Marshall Libertarians and the Cleveland-Marshall Federalist Society and was called “U.S. Monetary and Fiscal Policy: Going Exponential.”

Just to give you a taste, the following are excerpts from a good review by Kevin Lovach, the Co-Editor in Chief of The Gavel, CSU Ohio:

“[Walker] Todd is a former C-M professor who served as an officer of the Federal Reserve Banks of Cleveland and New York. He joined Case Western Reserve University Professor Emeritus William Pierce in analyzing the Federal Reserve’s monetary policies and federal deficit spending. Pierce served previously as Chair of the Case Economics Department.

“Stressing his view that the problems stem from Washington, D.C. and the banking-heavy northeast, Todd said ‘the existing Federal Reserve leadership needs to be booted out.’ He quipped, ‘I’d like to see the Board of Governors hanged first, the New York Fed hanged second, Boston hanged third.’

“Pierce put federal deficit spending for the 2009 fiscal year at 9.9-percent, a figure topped only by spending during and immediately after World War II. He argued that while the economy can handle deficits of three-percent of gross domestic product ‘forever,’ anything substantially higher ‘becomes real money.’”

Even if it’s too late, it’s good to know that the US Treasury, other Government agencies, and the Federal Reserve are able to do what they were supposed to do all along, i.e. monitor the health of the US banking system. This Federal Reserve white paper amply demonstrates their know-how by detailing the accounting verification procedures they applied in their infamous “stress test” of 19 major US banks, the results of which they now hesitate to divulge to the public for fear of instigating another wave of panic.

These tense times need comic relief.

An editorial in today’s Wall Street Journal brings home a fact that I’ve known for a long time: Economists tend to be schizophrenic.

The article mentions Larry Summers’s double talk. Summers commented on Obama’s latest budget by saying, “There are no, no tax increases….” The article points out that there are tax increases, namely the death tax that will be returning to its 2009 parameters, instead of disappearing as it was scheduled to do in 2011. That wouldn’t be more than a fib, but the story gets worse.

In 1980, Summers co-authored a study at the National Bureau of Economic Research supporting the elimination of the estate tax.

Go figure. Schizophrenia, anyone?

When President Obama arrives in London this week he will meet with the leader of Germany, a nation where his election has brought newfound goodwill towards America; but will the goodwill be enough to force the hands of Germany to conform to Washington’s desires for additional stimulus and bailouts? If the latest media reports, which point towards an Administration attempting to dial down expectations, are any indication, then the answer is most likely a soft no.

The NYT is reporting that little ground is expected to be made in regards to additional German stimulus, with Chancellor Angela Merkel expected to cite fiscal discipline as a reason for German non-cooperation with President Obama’s Administration on the issue-

I can’t claim to be the origin of the Fed Credit Bubble idea, because it occurred to me as I read a fantastic piece by one of my favorite analysts, Doug Noland of Prudent Bear.

We’ve just come out of a huge bubble that consisted of inflated real estate investment and speculative finance credit. The bubble burst and the market began to correct itself, menacing to take a lot of nations’ economies with it.