Everyone was focused this week on the mid-term election results. Instead, we need to focus on another event just as crucial, but less understood by the American public. Our unelected Federal Reserve Chairman, Ben Bernanke, launched QE2, the outright government purchase of US treasury securities. The highlights:
- The Fed is buying $600 billion of Treasuries (in the 5-10 year part of the curve) through mid-2011 and another $250-300 billion via coupon reinvestments, which they were going to do anyway.
- The key “number” for the markets is that $600 billion figure, which is about $75 billion per month. See Rosenberg Joins Chorus of those Accusing Bernanke of Asset (Read Stock) Price Targeting
In Ben Bernanke’s self-justifying op-ed in the Washington Post, he explained his main goal:
This approach 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. Easier financial conditions will promote economic growth. For example, lower mortgage rates will make housing more affordable and allow more homeowners to refinance. Lower corporate bond rates will encourage investment. 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. What the Fed did and Why: Sustaining the Recovery and Supporting Price Stability
Dr. Bernanke remained confident he could reverse this policy at the appropriate time.
Nowhere in the Federal Reserve’s mandate is the elevation of stock prices. Why not target wages and house prices? Further, the Fed will be continuing to purchase tainted and suspect mortgage backed securities. These securities are the heart of the current Foreclosuregate controversy. The Fed is paying full value for a security that may be worth pennies on the dollar.
Unintended Consequences of the Policy
Focusing on stock prices is a little like ordering dessert before focusing on the nutritional value of the main course. Before now, profits, dividends, discounted cash flow and future growth prospects determined what happened to a company and its stock price. Now will we have Federal Reserve whim determine stock prices? QE2 sets the markets up for another enormous bear market when the Fed stops QE2, or when stock-dislocating events overtake the Fed.
The unintended consequences are both legion and wealth destroying: a weak dollar with surging import prices; soaring inflation in critical commodities such as oil and grain; compressed profit margins caused by higher input costs; further punishment of savers and retirees; trade wars with other nations whose economies wilt under a weakened dollar; and market-wide unstable speculation.
Karl Denninger in Bernanke’s Folly: The End Game explains that the Fed policy is essentially a gigantic hidden tax on businesses and consumers. The end result will be a downward spiraling economy with businesses forced to lay off more workers to offset higher input costs – anything but the virtuous cycle Dr. Bernanke so fervently seeks.
The Constitution and the Election
Economic blogs are abuzz with QE2 analysis. One particular area has been overlooked: the break down in our political system and Constitutional protections. Dr. Bernanke has usurped the taxing and budgeting authority of Congress. QE1 and 2 put the taxpayer squarely on the hook for all Federal Reserve losses. The Treasury is required to make good on Fed losses. So without writing a bill or holding a hearing, Dr. Bernanke launched his quantitative easing campaign and effectively dismantled the legislative process. John Hussman warns of the danger of this reckless usurping of Congress’ role:
Now, since standing behind insolvent debt in order to make it whole is strictly an act of fiscal policy, one would think that under the Constitution, it would have been subject to Congressional debate and democratic process. But the Bernanke Fed evidently views democracy as a clumsy extravagance, and so, the Fed accumulated $1.5 trillion in the debt obligations of these insolvent agencies, which effectively forces the public to make those obligations whole, without any actual need for public input on the matter.” See Lessons from a Lost Decade
The Farce of the Mid-Term Elections
Tea Party activists are publicly miserable about out of control federal spending, bank bailouts and economic stimulus. Before the new Congress convenes, Dr. Bernanke has unilaterally established economic policy for both Congress and the Administration. Where is the outrage? The Tea Party is so worried about liberty and free market capitalism, why have they not protested the dubious economic policies of an unelected new economic Czar, Dr. Bernanke? After all Dr. Bernanke and the Federal Reserve Governors have the same methods and goals as the former Soviet State Planning Committee.
More practically, why has Congress not held hearings and asked Dr. Bernanke some pointed questions:
- Why did QE1 not work?
- When you stopped QE1 in March of this year the markets fell and the economy retreated. Is there a reasonable possibility that you can ever stop the QE policy without a market crash?
- Have we just signed on to perpetual QE? If not, explain your exit strategy.
- What will be the effect on our trading partners and will your policy lead to a currency war?
- Please outline other risks in your policy and weigh these against the benefits.
- How much of QE2 will go into foreign market speculation?
- QE did not work in Japan for the last 20 years. Why will it work here?
Academic Theory
Dr. Bernanke is an academic theoretician. He taught at Princeton and now heads the Federal Reserve. He has never run a business in the real world. Quantitative easing is a theory and like all theories needs to be tested and proven. We do not approve introduction of a new drug without stringent tests and proofs. Dr. Bernanke is not playing with one drug; he is playing with our entire economy and political system. QE1 in the United States and QE in Japan for twenty years proved to be failures. Why are we repeating failed strategy?
If he is going to target stock prices, then I still have some underwater stock options from a former employer. Perhaps the good doctor could salvage my company’s stock too. When one usurps normal market mechanisms, why not?
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Related posts:
- Ben Bernanke is a Dinosaur
- Restoring Federal Reserve Accountability
- How Many Branches of Government?
- The State of Things
- Market Discipline and Sustainable Growth
Tags: Ben Bernanke, Karl Denninger, QE2. John Hussman, The Federal Reserve
