What economic cycle are we in right now?

[Kshartle]

You guys seriously..........

[MediumTex]

You guys seriously..........

Let's get the discussion back on track.

No more "kook" references or sock puppet suggestions please.

[Gumby]

A. I believe inflation is significantly higher than the government is reporting.

You'll need to prove that. Keep in mind that the official CPI is very different from "all prices" They are specifically chosen for a good reason.

BLS really does publish a lot of different inflation reports. For instance, here are the official inflation numbers for "CPI Less Shelter". In other words, this is what inflation looks like if you include Food, Energy and remove the cost of housing...

[align=center][/align]

So, this is what many consumers probably feel when they try to sense their own personal inflation rate. Yes, it's often a bit higher than Core CPI. But, it's just not indicative of the real Macro environment where people need a place to live and raise their families. CPI-Less Shelter is also too volatile for economic planning.

So, as you can see, the official inflation numbers aren't a government conspiracy. The data is there if you know where to look.

B. I believe the Central bank will continue expanding the money-supply until there is a real dollar crisis then will start raising rates (or the market will force them up)

The central bank doesn't really expand the money supply in the way you are suggesting. They can coax the direction of private credit (with interest rates, for instance), but they can't change the amount of net financial assets in the private sector. If you took the time to read both papers, you'd understand that by now.

C. The US government will be unable to service it's debt without additional inflation.

Perhaps. Perhaps not. You are speculating. We don't try to speculate here.

either way rates are gonna go up as investors recognize the creditworthiness of the US is not AAA, it's more like junk)

And yet, rates went down in both Japan and the US every time credit ratings were slashed in both countries. So, you've already been proven wrong a few times on that one.

[Kshartle]

Appreciate that.

We can retire the discussion if it's fine with everyone. I think it's the most important one out there right now in the investment wolrd and certainly a huge one for people using this invesment strategy. I was hoping that challenging the wisdom of holding this paricular investment would be met with reasoned economic analysis of the situation.

[Gumby]

Ultimately Kshartle, it seems like you don't realize that private credit and government spending are two completely different things and private credit happens to make up the overwhelming majority of the broad money supply. So, if private credit is in the toilet, and the government is printing like crazy, it's still possible for the broad money supply to go down. For some reason, you only want to focus on government spending and its on inflation.

[Gumby]

I was hoping that challenging the wisdom of holding this paricular investment would be met with reasoned economic analysis of the situation.

And I was hoping you'd take the time to read both papers, as they explain why many of the arguments you were making are nothing more than myths.

[Pointedstick]

It's not that contraversial a position:

A. I believe inflation is significantly higher than the government is reporting.
B. I believe the Central bank will continue expanding the money-supply until there is a real dollar crisis then will start raising rates (or the market will force them up)
C. The US government will be unable to service it's debt without additional inflation.
D. Long-term bondholders are sure to lose purchasing power over time because real rates with either be negative or the Government will write off some of it's debt through a partial re-structuring. (This might only apply to foriegn bonholders or the very wealthy where it is politically palatable, either way rates are gonna go up as investors recognize the creditworthiness of the US is not AAA, it's more like junk)

D. The bond market disagrees with you about the creditworthiness of the U.S. Government. You keep saying that a "default via inflation" is just as much a default as saying, "welp, looks like you're not getting your money back, sorry!" They're hugely different. Your description of "defaulting via inflation" is a feature of every single debt contract in a debt-based monetary system due to the systemic background inflation. The market has priced this in and understands that the interest payments of fixed-interest-rate debt will lose purchasing power over time.

C. That, or a productivity boom. I'm a bear on that front too, but at least we can agree now that they will have no trouble servicing the debt, whether it be through inflationary currency expansion or a more productive underlying economy.

B. The central bank is only expanding the money supply because Congress appropriates more money. It's really them you want to blame, not the Fed. They're just facilitating what Congress orders. I agree with you that there will be problems if deficit spending continues at a crazy pace after the private sector recovers and begins creating more of its own money again.

A. What do you believing is increasing in price faster than reported? And where are people getting the money to afford these higher prices? Wages have been stagnant or falling for a decade. CPI less shelter is still very low by historical standards.

[Gumby]

D. Long-term bondholders are sure to lose purchasing power over time

The bond market really doesn't care...

See: http://pragcap.com/the-market-does-not- ... -inflation

[Kshartle]

If the private sector banking industry destroys a trillion dollars through bad lending and credit defaults, and the fed creates a trillion dollars and uses it to buy bonds and MBS contracts, has the money supply actually expended? Or has the fed restored the money supply back to its previous size?

What you're missing is that the money supply grows and shrinks from two sides: the Fed, led by congressional spending, and also the private banking system as people take out loans, repay them, or default on them. One side can make up for a deficit in the other. Both can grow or shrink at the same time.

What you're describing is a stable supply of FRNs. I haven't overlooked this. The fed can create new FRNs and the supply can still go down.

I read the 2nd, half of the first. I'll get back to you on it.

[Gumby]

B. The central bank is only expanding the money supply because Congress appropriates more money. It's really them you want to blame, not the Fed. They're just facilitating what Congress orders. I agree with you that there will be problems if deficit spending continues at a crazy pace after the private sector recovers and begins creating more of its own money again.

Yes. But, let's be clear. The Fed doesn't expand the money supply with a helicopter drop. They influence interest rates, which expands/contracts private credit. They also buy interest-bearing assets (i.e. an asset swap) and this swap leaves the private sector with less interest income and more liquid dollars. (The change in liquidity doesn't make people feel richer after the swap — though it can induce a "crowding out" phenomenon in bidding up certain assets). The Fed pockets all the interest income and returns any profit to the Treasury. In reality, the Fed is removing interest income from the private sector when they do this. And the total amount of net financial assets in the private sector remains the same before and after the Fed transactions are settled. The Fed does not conduct helicopter drops. Only the Treasury can do that (which is what PS is saying).

[moda0306]

Gumby,

Exactly!!

Money is a nebulous concept, especially when it's fiat, so it's good to try to start with a barter economy in mind and then apply thoughts on how a currency might develop into that.  However, we didn't go from barter to fiat, we went from barter, to loose forms of currency & contracts, to gold, to gold based government and bank currency, to a more malleable gold/credit based currency, to a fiat & heavy credit based currency.

If you don't understand the nature of credit, or what fundamentally makes the USD valuable to us, then one will fail to properly visualize what happens when our fed "prints money."  Our bonds are essentially savings accounts that almost may as well be money. You can't buy groceries with a treasury bond, but what if our government and payment infrastructure all of a sudden came up with the ability to use financial assets as money... Stocks/bonds/etc... Would we all of a sudden be awash in massive hyperinflation?  No, because to most people view money as just another financial asset on their balance sheet.

Further, I'm amazed by the love Austrians have for liquidationism, yet they also seem to have a deep adoration for business owners.  Well since recessions are natural reactions to a monetized economy, not just abhorrations caused by government, even business owners who offer goods and services not directly purchased by government would be in massive pain in the event of a depression. It's not like a bunch of home builders and government contractors go out of business and every other business flourishes in a world of Austrian reaction to recessions.

Basically the only ones that come out gaining are people who hold lots of cash or high quality bonds.  Why should we punish everyone else for the sake of some people who hold pieces of paper?  I mean to give someone earning 4.5% on a pre-crisis treasury bond and sustaining an environment of severe inflation on purpose is one hell of a handout.

[Bean]

If the Fed printing money means nothing in the grand scheme of things, then they can give me some.  If it does mean something, it means inflation.

and my favorite video dumping on neoclassical economics

https://www.youtube.com/watch?v=bQLthVztQSk

[MediumTex]

If the Fed printing money means nothing in the grand scheme of things, then they can give me some.  If it does mean something, it means inflation.

and my favorite video dumping on neoclassical economics

https://www.youtube.com/watch?v=bQLthVztQSk

I think that part of what Gumby and others are getting at is that without undstanding and including in your analysis what's happening in the private sector, it's impossible to draw any conclusions about what the effect of a given set of fiscal and monetary policies will be.

If the private sector is destroying money through extinguishing debt, then the government may be able to "print" huge amounts of money without any inflationary effects.  OTOH, if private sector credit is expanding, then the government can actually reduce the money supply through tax collection and tight monetary policy and there may still be inflation.

[moda0306]

If the Fed printing money means nothing in the grand scheme of things, then they can give me some.  If it does mean something, it means inflation.

and my favorite video dumping on neoclassical economics

https://www.youtube.com/watch?v=bQLthVztQSk

The fed doesn't give anyone money, they swap it for bonds.  So if you really want the fed could pay your $10k cash for $10k you may hold in bonds.  Will you feel richer?  Will you go spend more money?  Probably not.

The main effect of "printing money" is lowering of the risk free rate, therefore lowering of lending rates to businesses and possible expansion of credit.

But if you can't lower the risk free rate any lower you can't do those things. We're at zero.  Methinks they could QE the living daylights out of us and our macroeconomic reaction would be "meh." 

What printing money "means" is destroying bonds. It may mean inflation, but only in certain environments.

[glennds]

If the Fed printing money means nothing in the grand scheme of things, then they can give me some.  If it does mean something, it means inflation.

and my favorite video dumping on neoclassical economics

https://www.youtube.com/watch?v=bQLthVztQSk

I think that part of what Gumby and others are getting at is that without undstanding and including in your analysis what's happening in the private sector, it's impossible to draw any conclusions about what the effect of a given set of fiscal and monetary policies will be.

If the private sector is destroying money through extinguishing debt, then the government may be able to "print" huge amounts of money without any inflationary effects.  OTOH, if private sector credit is expanding, then the government can actually reduce the money supply through tax collection and tight monetary policy and there may still be inflation.

Maybe you can help me understand something here. I keep hearing comments through this discussion that suggest a hard bright line between the public and private sectors. My understanding is that QE is covering two distinct areas. One is the purchase of troubled assets like MBS from the private sector in exchange for FRN (money). In this case the private sector is trading one asset (albeit a troubled one) for another (liquidity), so my impression is that no inflationary pressure would arise from these transactions. The second component of QE is the purchase of Treasury debt with FRN (money), which then goes to the Treasury to be used to fund our government's budget deficit. How will this money not end up in the private sector in the many ways that the government spends it (wages, contracts, entitlements, etc)? And as it ends up in the private sector, how can this additional money not create inflationary pressure?

On a corollary note, it is also my impression that were it not for QE, there would not be a sufficient buying market for Treasury debt, or at least not at the interest rates that are (a) affordable to our government without triggering a debt spiral or (b) at the levels we hope will stimulate the economy back into prosperity.

What am I missing?

Thanks

[Gumby]

If the Fed printing money means nothing in the grand scheme of things, then they can give me some.  If it does mean something, it means inflation.

and my favorite video dumping on neoclassical economics

https://www.youtube.com/watch?v=bQLthVztQSk

I think that part of what Gumby and others are getting at is that without undstanding and including in your analysis what's happening in the private sector, it's impossible to draw any conclusions about what the effect of a given set of fiscal and monetary policies will be.

If the private sector is destroying money through extinguishing debt, then the government may be able to "print" huge amounts of money without any inflationary effects.  OTOH, if private sector credit is expanding, then the government can actually reduce the money supply through tax collection and tight monetary policy and there may still be inflation.

Maybe you can help me understand something here. I keep hearing comments through this discussion that suggest a hard bright line between the public and private sectors. My understanding is that QE is covering two distinct areas. One is the purchase of troubled assets like MBS from the private sector in exchange for FRN (money). In this case the private sector is trading one asset (albeit a troubled one) for another (liquidity), so my impression is that no inflationary pressure would arise from these transactions. The second component of QE is the purchase of Treasury debt with FRN (money), which then goes to the Treasury to be used to fund our government's budget deficit. How will this money not end up in the private sector in the many ways that the government spends it (wages, contracts, entitlements, etc)? And as it ends up in the private sector, how can this additional money not create inflationary pressure?

On a corollary note, it is also my impression that were it not for QE, there would not be a sufficient buying market for Treasury debt, or at least not at the interest rates that are (a) affordable to our government without triggering a debt spiral or (b) at the levels we hope will stimulate the economy back into prosperity.

What am I missing?

Thanks

Glennds, my apologies for not having the time to fully answer all your questions as I have to run, but a few things...

The Fed does not typically issue "FRNs" for POMO asset swaps. Kshartle was misinformed in that regard. FRNs are physical paper banknotes (they are actually printed by the Treasury, for the Fed, and purchased by banks and usually backed by public debt or other assets). But when the Fed swaps assets it is just hitting some keystrokes to create dollars in an account. That's not FRNs. FRNs are a bit different. Let's just call them "dollars" because that's all they are.

Second, unlike Japan's BOJ, the Fed cannot purchase assets directly from the US Treasury. The Fed must purchase by loaning money to Primary Dealers (i.e. overnight loans or repos) which must be paid back of course. In a weird way, most of the money to buy US bonds comes from previous deficit spending (mind-melting, I know!) people are just swapping their hard-earned deficit dollars into safe US bonds. It's just a "reserve drain".

If you take the time to read the second paper (from pragcap) you will see that the money to buy these bonds are always available in the private sector before each bond auction. The bond auctions are just reserve drains so that banks can trade in their excess dollar reserves for ultra-safe bonds. And the Fed uses this process to set interest rates.

If you read the papers, they explain all this. Sorry, I can't be of more help, busy day!

[glennds]

Okay, thanks - I"ll read both those papers this weekend in the hope of gaining some better understanding.

I like your term - mind-melting. Appropos