As Fed Chairman, Ben Bernanke painted both himself and the Federal Reserve in a corner with a policy of loose and cheap money. Today Yellen and the Federal Reserve with an inflation target of 2% continue to please those gambling that not fighting the Fed guarantees profits. As many Americans are forced to pay higher prices I wish someone would let the Fed Chairman know we are already there. Any thought that inflation is not higher has to be from the false illusion created by lower payments due to low interest rates, this is a one off and will not continue. Today America and the world are boxed in by a policy that is increasingly hard to escape.
America continues to import around five hundred billion dollars worth of goods from other countries every year than it exports and those who export to us are dependent on America continuing to buy these goods. We have a giant trade deficit, add to that our massive government deficit and it is easy to see that we are living far beyond our means. This means that Janet Yellen and the Fed at some point will have to begin pondering an exit strategy and how they can remove the massive stimulus that the economy has come to expect. Sadly, little has been done to address our structural problems and make America more competitive, growth will be thwarted unless these and other issues are dealt with.
Both Bernanke and Yellen failed to make any serious efforts in pushing the government to take the necessary reforms needed to move the economy forward. What started as a program to support and prop up the economy has morphed into the main driver of economic data. Between the low-interest rates that continue to force investors into high-risk assets in search of a positive return on their money, and money being pumped into the system, the markets have become distorted and disconnected from the economy. The idea that the money will continue to be forced into the sky high equity market is flawed. What was seen as a short term and temporary measure to prop up and boost the economy has become the new normal.
The Fed remains trapped in a corner, with higher interest, mortgage rates will rise. The low-interest rates that have discouraged savings and encouraged people to take high risks have also caused people to take on more debt for things such as automobiles. In the end, this does not lead to a healthy economy, but rather a story that will end in tears and regrets. When interest rates rise, as they will have to do at some point, the economy will slow, the value of these risky investments will decline, and these investors will be hurt. Also as a double whammy, interest payments on the public debt will rise, increasing the budget deficit, which exploded during the Obama years.
If all the money dumped into the economy would suddenly change direction and rush into hard assets, the shift would be devastating to our struggling economy because inflation would soar. This thought also raises other questions, what can we define as a hard asset, what is really available, and in what quantities? This may be where inflation raises its ugly head. An unknown and surprising fact about inflation is how fast it can take root. With such a shift, interest rates would move higher and investors would flee government bonds. The crash of the bond market and what many have called a Bond Bubble will become a reality. Coming up with a plausible exit strategy and making it work are two different things.
Almost a decade ago when Ben Bernanke started us down the path of quantitative easing and artificially low-interest rates a great deal was made of his having studied the great depression era. His claims he had the answers as to how we could avoid a large amount of financial pain and dodge creating a situation such as has played out in Japan and been described as the “lost decades” garnered much support. Central banks across the world have made deflation the bogeyman that allows them to rationally embraced the easy money policy and continued it even though it has not resulted in the economic growth that was promised. It should be noted that cross-border money flows and other such investment vehicles have made this all a bit dicey and forced us to ask if speculative bubbles are being created, keep in mind if you have to ask if it is a bubble it probably is.
H/T: Bruce Wilds