ChrisMartenson.com

[MachineGhost]

I believe Switzerland has done this once or twice to great success in terms of distracting foreign capital inflows.  However, whether or not the same will work on the world's reserve currency... the unintended consequence of forcing banks to increase lending will be to cause another malinvestment bubble exactly like the subprime debacle we just experienced.  The Fed should not be in the business of manipulating the money supply, it should only act as a lender of the last resort.  But that will require changing its mandate away from "stable prices and low unemployment" as the anarchronistic belief is that fiddling with the money supply will fiddle with  unemployment rates.

And if confidence expectations remains low, I bet the banks will just eat the fees.  Current economic models are as stupid as the CBO budget markup forecasts -- neither take into consideration the change of incentives on human behavior.

MG

Why not just charge negative interest on reserves?

It seems to me this would acheive what near-zero rates aren't.

[MachineGhost]

Well, thats not the real world if you look at the PIIGS.  There are real world limits to how long you can fool people to get them to buy government bonds, whether that is directly at auction or indirectly via inflation.  Keep in mind this can go on for deades on end -- the Soviet Union lasted 70 years despite 99% of its technology being stolen from the West (need I remind you Russia also defaulted on its bonds in 1999?).  If there is in effect no meaningful liability, defaults would never occur and monetarization-inflation would be nonexistent.

MG

Lone Wolf, saying that bonds (assets) have a linked liability on a net macro scale is only ever true if you believe that the stock of bonds isn't going to just increase for ever. MMTers do believe that the government debt is going to increase for ever and ever. So given that belief, in effect there is no meaningfull liability.

[stone]

That is one the main reason increasing the monetary base will have limited effect.  Even in more recent history with the stupendous increase of the monetary base, it will not act inflationary until all the banks dump all the bonds onto the marketplace that does not want it.  That will only happen when the economy recovers. 

I don't follow how, when the economy recovers, dumping the bonds will cause inflation. Someone has to hold the bank reserves and someone has to hold the bonds. They will be in existence until they mature/are retired by the government. If banks dump the bonds, that will not generate any more bank reserves or destroy any bonds it will just reduce the present market value (not the face value or total return to maturity) of the bond stock. There are excessive amounts of bank reserves now so those bank reserves just sit idle with a very low velocity. When the economy recovers, that velocity may pick up a bit but bank reserves never would have been a break on M1 or M2 growth so why would having even more than enough M0 cause inflation?

[stone]

Well, thats not the real world if you look at the PIIGS.  There are real world limits to how long you can fool people to get them to buy government bonds, whether that is directly at auction or indirectly via inflation.  Keep in mind this can go on for deades on end -- the Soviet Union lasted 70 years despite 99% of its technology being stolen from the West (need I remind you Russia also defaulted on its bonds in 1999?).  If there is in effect no meaningful liability, defaults would never occur and monetarization-inflation would be nonexistent.

The PIIGS countries don't have their debt in a free floating, fiat currency that they are the sole issuer of. Instead they are using in effect a foreign currency. They might as well have had debt in USD.  The only example of default ever by a country with a currency system remotely like the current systems of the USA, UK, Japan, Canada, Australia, Sweden, Malaysia, Brazil etc etc was when Japan defaulted on bonds held by American's and British during WWII. That was a deliberate and easily understandable action rather than an involuntary inability to pay. I'm happy to be corrected if I'm wrong but I don't think I am.
If you are meaning inflation when you say default, then this is just semantics. I agree with you that things are set up such as to force an endless monetary expansion. I don't think that is sensible and I fear it might come to a sticky end but I don't think that that sticky end need be in the form of default or hyper-inflation.
Here's something about the default of the pegged Ruble:-

http://modernmoney.wordpress.com/2011/0 ... cy-victim/
"After the breakdown of the Soviet Union they made their first major mistake they pegged the ruble within tight range to US dollar – and thereby surrendered their currency sovereignty.
Their second mistake was to allow heavy borrowing in foreign currencies. There was considerable optimism in Russia at the time and all sorts of opportunists were set loose and their foreign currency exposure rose dramatically.
Then in November 1997, the Asian crisis causes a speculative attack on the ruble. The speculators knew that (a) it was going to try to maintain the peg; and (b) it was borrowed to the hilt in foreign currency. So, sell it short to death was a sure way to scoop the pool.
The problem was that the Russian government played right into their hands and instructed the central bank (CBR) to defend the ruble (that is, maintain the peg) and they lost around $US6 billion in reserves in doing so.
On top of the currency attack, a second shock came in late 1997 with the collapse of oil and nonferrous metal prices, upon which they heavily depended on to earn them foreign exchange.
Soon after (April 1998) there was another hedge-fund inspired speculative attack on the ruble which saw further foreign exchange reserves lost. The obvious reaction should have been to suspend the peg, float the currency and default on all foreign-currency loans (or negotiate conversion into local currency).
However, not to be beaten on May 19, 1998 the CBR increased their lending rate from 30 percent to 50 percent and spent a further $US1 billion defending the peg.
This mistake was magnified as oil prices kept dropping and the CBR kept bleeding US dollars.
Eight days later (May 27, 1998), the CBR increased the lending rate to 150 percent and the domestic economy was being scorched.
In August 1998 (the 13th), prices on Russian share and bond markets collapsed as investors sold off in the face of major fears of devaluation. Annual yields on ruble-denominated bonds exceeded 200 percent at this point.
Finally, four days later (August 17, 1998), the Russian government devalued the ruble, defaulted on domestic debt, and pronounced a moratorium on payments to foreign creditors (effectively a default).
On September 2, 1998, the government floated the ruble.
First, this was not a bank crisis. It was the result of the currency peg and the massive exposure to foreign-denominated debt.
Second, at any time they wanted to they could have floated which would have stopped the need to hike interest rates and kill their economy.
Third, they never needed to default on domestic debt. That was the act of sheer stupidity and the poor advice they were getting. There was never a solvency risk in their own currency. The IMF were in there telling the Russian government that they had to implement an austerity plan and convincing them that they needed to “raise money”? to fund the deficit – both erroneous propositions."

They could have simply floated and become sovereign and then there was no solvency risk in all debts denominated in that currency.

[Gumby]

Stone is correct.

See also: http://pragcap.com/the-russian-default-what-happened

And PIIGS don't issue their own currency. There is no comparison a country, such as the US or Japan, that is the sole issuer of a free floating, fiat currency and doesn't owe foreign-denominated debt.

For example, hyperinflation doesn't come from purely printing money. There are real exogenous factors that caused every modern hyperinflation:

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[MachineGhost]

It is unconstitutional for the Fed to engage in fiscal policy.

And just to muddy the waters, there is far, far, far more private money out there in the real world than public money.  Private money is what the commercial banks create when you deposit a promissary note to get a "loan" or a "mortgage" -- they create the private money out of thin air with an accounting entry just like the Treasury.  Those banks also have a monopoly just like the Fed.  There's also private money not connected to the Federal Reserve System such as reward points, Ithaca Hours, etc.

MG

Guys,

You keep skipping my question.  how does the Fed ever increase the money supply if the only thing they can buy are bonds that were bought with printed money?

[moda0306]

MG,

Yeah I was having a brain fart session and I DO understand that reserves are just the first form of money, with all debt-money built on top of that.

But I agree with the other guys.  All credit-money has a liability that must be repaid attached to it.  Federal gov't debt has no such liability except for the ability to put us in jail if we don't pay taxes.  Maintaining that clout is their "liability."

The dual mandate makes very good sense if the money suppy needs to be expanded beyond that of gold and money backed by financial liabilities.  The very purpose of an expanding money supply is to meet the needs of an economy... people willing to work and exchange their services for others' services, but require a medium of exchange with which to make the process much  more efficient.

Unemployment is probably THE key indicator of an economy that's 1) not producing what it's capable of, and 2) people suffering because they can't find work to be paid in common currency.  This is key to understand:

Nobody's saying there's a free lunch.  We're talking about real people getting up at 6:30 in the morning to go build a bridge that will increase commerce, vs sitting on his butt wanting a job.  There's no free lunch... there's either no lunch, or a lunch paid for with human labor & ingenuity.  People actually have to WORK and produce value, and when there's high unemployment, they don't.  I think proper monetary policy vs improper monetary policy is akin to Craigslist vs the poster board at a grocery store for aligning buyers and sellers.

Craigslist isn't a free lunch, but it's more competently helping buyers and sellers meet each other.  Proper monetary policy does the same thing... it gives our households enough net financial assets to meet the needs of our consumption, savings, investment and employment, and it's all backed by the "liability" of our government's clout to collect taxes.

The other factor to money policy besides unemployment would be inflation.  I find the mix of the two to be a very reasonable gauge with which to start looking at monetary policy.

If we're not going to look at unemployment, and simply wait until a financial collapse happens to let the fed do anything, then we're basically throwing most of the reasons we're expanding the money supply to begin with out the window.

[stone]

moda, my problem is that I don't get the impression that monetary policy works. Both of the dual mandates "full employment and 2% inflation" seem to me to be much more under the control of fiscal policy rather than interest rate setting. So the fed is given mandates and the government is absolved of responsibility for fulfilling those mandates but only the government and not the fed has the (fiscal) means to deliver those mandates.

[moda0306]

stone,

I totally agree with what you said.  I didn't really cover the treasury/congress's role, but I totally agree with what you're saying.

The fed may be able to massage the money supply, but only the treasury really does substantive adjustments to balance of net-financial assets in American households, which I think is the overriding factor.  Balance sheets drive so much, or at least should.

[moda0306]

stone, Gumby & anyone else,

Here is an excellent PragCap article on QE 3, and the nature of QE in general

stone, in particular it mentions the increase in speculation after QEII.

http://pragcap.com/quantitative-easing- ... -non-event

Altering real interest rates and portfolio rebalancing are fanciful sounding in an academic study, but in the real world consumers and business owners have little perception of real interest rates. Particularly during a balance sheet recession. What alters consumer spending habits is their spending desires relative to real earnings. In the case of QE2 we saw a decline in real earnings and a jump in inflation. This is consistent with consumers experiencing a reduction in their standard of living and it is not surprising that we have seen very weak consumer data in recent quarters as a result.

What primarily alters business investment is whether or not they have customers walking in their doors. Because QE did not alter the net financial assets of the private sector (it is merely an asset swap) it did not provide consumers with more spending power which would lead businesses to increase investment. More importantly though, real rates are most effective when they cause a releveraging effect in the economy. And herein lies one of the primary problems with monetary policy during a balance sheet recession. Consumers don’t want to take on more debt! So businesses might refinance, but without the increased business there is no reason to expect them to increase investment. These facts are abundantly clear from the above data on private investment and personal consumption.

Altering expectations appears like pie in the sky economics to me. I don’t deny that there is a certain level of truth to the idea that animal spirits play an important role in the economy, but they cannot be altered via the Fed bond purchases as we experienced during QE2. The problem here is that the majority of consumers and businesses make very few of their daily decisions based on the fact that the Fed might be buying some more bonds. Because this operation does not alter the net financial assets of the private sector there is very little reason to believe that it will filter through the economy in any sort of meaningful way. So, as I’ve often said, QE2 was implemented in a manner that is similar to telling your blind child that he/she might become a world class archer one day. It builds up hope, but doesn’t follow through with any real fundamental effect that will help the child achieve the dream you have implanted in his/her mind.

[MachineGhost]

All the Fed's monetary policy does is determine what form of the liabilities the public will hold: bonds or currency.  Nothing else, nothing more.  Congress via the Treasury is the ultimate emitter of the credit.  This is how the government infamously "crowds out" private savings-investment when issuing too much unproductive credit.

You've got to remember that the Federal Reserve Act had to be sold to the public.  The manifesto would include populist mandates that are not true in reality or impossible to achieve such as "price stability and full employment" (note that the ECB only has "price stability" as a mandate).  There has been neither since inception and the 70's exposed the flaw that inflation and employment were inversely linked.

The other thing to realize is that, although it sounds logical at face value and is repeated ad nasuem as a fact by the mainstream, consumer spending does not grow an economy.  Only productive government spending and productive private savings-investment does, aka capital spending, R&D, etc.  Did entrepeneurs such as Steve Jobs respond to consumer demand?  No, Jobs invented something completely new and different because he felt consumers were too stupid to know what they want.

All forms of money ultimately comes from productivity.  When it is not matched, you get inflation.

MG

stone, Gumby & anyone else,

Here is an excellent PragCap article on QE 3, and the nature of QE in general

stone, in particular it mentions the increase in speculation after QEII.

http://pragcap.com/quantitative-easing- ... -non-event

Altering real interest rates and portfolio rebalancing are fanciful sounding in an academic study, but in the real world consumers and business owners have little perception of real interest rates. Particularly during a balance sheet recession. What alters consumer spending habits is their spending desires relative to real earnings. In the case of QE2 we saw a decline in real earnings and a jump in inflation. This is consistent with consumers experiencing a reduction in their standard of living and it is not surprising that we have seen very weak consumer data in recent quarters as a result.

What primarily alters business investment is whether or not they have customers walking in their doors. Because QE did not alter the net financial assets of the private sector (it is merely an asset swap) it did not provide consumers with more spending power which would lead businesses to increase investment. More importantly though, real rates are most effective when they cause a releveraging effect in the economy. And herein lies one of the primary problems with monetary policy during a balance sheet recession. Consumers don’t want to take on more debt! So businesses might refinance, but without the increased business there is no reason to expect them to increase investment. These facts are abundantly clear from the above data on private investment and personal consumption.

Altering expectations appears like pie in the sky economics to me. I don’t deny that there is a certain level of truth to the idea that animal spirits play an important role in the economy, but they cannot be altered via the Fed bond purchases as we experienced during QE2. The problem here is that the majority of consumers and businesses make very few of their daily decisions based on the fact that the Fed might be buying some more bonds. Because this operation does not alter the net financial assets of the private sector there is very little reason to believe that it will filter through the economy in any sort of meaningful way. So, as I’ve often said, QE2 was implemented in a manner that is similar to telling your blind child that he/she might become a world class archer one day. It builds up hope, but doesn’t follow through with any real fundamental effect that will help the child achieve the dream you have implanted in his/her mind.