Alan's Finance Blog

What Most People Don’t Realize About The Fed’s Superpowers

Bob Prechter’s Conquer The Crash reveals whether the Fed really can rescue the US economy

By Elliott Wave International

Since its creation in 1913, the primary intended role of the U.S. Federal Reserve Bank has been that of protector. In theory, the central bank was bestowed with the power to shape monetary policy in a way that would keep both booms and busts in check. The two main tools at its disposal — interest rates and money creation — would provide a “ceiling of normalcy” above expansions AND a “net of safety” below contractions.

To this day, the financial mainstream holds great faith in the Fed’s ability to fulfill its save-the-day duties — as these recent news items make plain:

• “Why Raising Fed Funds Rate Is Positive For Equities.” (Seeking Alpha)
• “Fed’s Moves Lift All Asset Classes.” (Associated Press)
• “US Stocks Erasing Losses: The aggressive moves of the Fed have been an important driver for the stabilization of stock prices.” (Bloomberg)

But of all the variables the Fed creators took into account, there’s one glaring factor they neglected to consider: Namely, it cannot force consumers to spend, creditors to lend, or businesses to borrow. The events of 2007-2009 “credit crunch” and the subsequent “Great Recession” made that obvious. Remember how the government was upset at banks for sitting on the bailout funds instead of lending them out to consumers? And consumers weren’t exactly lining up on the street to get a loan, either.

The Fed’s inability to change social mood is the central theme in Chapter 13 of EWI President Bob Prechter’s NY Times business bestseller book Conquer the Crash. There, Bob describes the Fed’s strategy of lowering the federal funds rate to stimulate spending to be as effective as “pushing on a string.” Writes Bob:

“The primary basis for today’s belief in perpetual prosperity and inflation with an occasional recession is what I call the ‘Potent Directors Fallacy.’ It is nearly impossible to find a treatise on macroeconomics today that does not assert or assume that the Federal Reserve Board has learned to control both our money and our economy. Many believe that it also possesses the immense power to manipulate the stock market. The very idea that it can do these things is false.”

And so begins one of the most groundbreaking studies into the very real INABILITY of the Fed to fell the great bears of economic declines, or to feed the great bulls of economic vigor.

The best part is, you can read Chapter 13 of Conquer the Crash in its entirety FREE via a Club EWI resource “You Can Survive And Prosper In A Deflationary Depression.” The free report also includes SEVEN other chapters of Conquer the Crash that shed equal light on some of the most misleading notions of mainstream economic wisdom.

Bernanke’s Monetary Policy Is Doomed!

Last week Ben Bernanke wrote an article for The Washington Post to justify the Fed’s decision of another round of quantitative easing. Here’s his core argument:

“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.”

It looks to me like the world’s most powerful central banker hasn’t learned anything from recent financial history. He seems to resist the overwhelming evidence that the Fed’s bubble-blowing policy since the second half of the 1990s has failed miserably.

And he seems convinced that the current economic malaise can be remedied by more easy-money.

I was critical of Greenspan’s stock market bubble policy of the late 1990s. And in 2004 I wrote the book, The Greenspan Dossier, where I described the state of the housing market and predicted the severe consequences of its unavoidable bursting:

“When the U.S. real estate bubble bursts it will not only trigger a recession and a stock market crash, but it will endanger the entire financial system, especially Fannie Mae and Freddie Mac.”

These predictions were clearly spot on. Now, here we are two burst bubbles later, and the Fed chairman maintains his bubble-creating policies! And in his Washington Post article he clearly tells us he wants to create another stock market bubble to boost consumer spending and the economy.

With unemployment high and inflation very low, Bernanke defended the Fed’s $600 billion bond-buying program.

I think Bernanke’s policy is doomed, mainly because …

The Markets Can Be Stronger
than the Manipulators!

Many stock market participants remember the past decade’s roller-coaster ride when the market lost half its value … twice! And they just might not be willing to be led into the same trap a third time.

So market forces could turn out to be stronger than the central bank’s market manipulation efforts.

And it’s not the first time that has happened …

Years ago many central bankers learned this lesson in the currency markets when their interventions totally failed to change currency trends. And with the Bank of Japan we have a prime example of failed central bank manipulations of the stock market.

As you can see in the chart below, the Nikkei shot up 22 percent following the BOJ’s quantitative easing announcement in March 2001. But the party was a short one …

From May 1, 2001 through September 17, 2001, the Japanese market lost all of those gains — and more — tumbling 34.1 percent.

It’s really ironic …

When the twin bubbles in Japan burst — a stock market bubble followed by a housing bubble — the Japanese authorities answered in exactly the same way their U.S. counterparts are doing now.

They implemented the same fiscal and monetary policies grounded in the same faulty arguments — and failed miserably. Even more ironic is the fact that the U.S. was Japan’s sternest critic.

Here we go: Same problems, same short-term fixes — yet Bernanke is hoping for different outcomes. But given all that ails the economy, I think Helicopter Ben is in for a very unpleasant surprise.

Best wishes,

Claus

For more information and archived issues, visit http://www.moneyandmarkets.com

Why the Fed Likes Independence

Last week it was revealed that when Treasury Secretary Tim Geithner was Chairman of the New York Federal Reserve, he urged AIG officials not to disclose to the Securities Exchange Commission relevant details of agreements with banks to bail out Goldman Sachs.  Apparently he felt at the time that regulators and the public would be angry that taxpayer money was used to fully compensate bankers who made some horrifically bad investment decisions.  These banks should have suffered the consequences of the huge risks they were taking.  After all, they kept plenty of rewards when times were good.  Instead, the Fed found a way to socialize these major losses so these banks could survive and continue making more bad decisions, at the expense of the American people and the value of the dollar.

Geithner claims that they had to take politically unpopular actions to save the economy from collapse.  Half of that is right – it was politically unpopular, but it is extremely premature at best, to claim the economy has been saved.  It was just reported that the economy shed 85,000 more jobs in December.  Unemployment stands at 10 percent officially, and 22 percent according to more traditional calculations.  It is hard to argue that this sort of government waste has done anything but harm to our economy.  Raiding Main Street to bail out Wall Street is a foolish idea.  Main Street productivity and the strength of the dollar is the bedrock of the economy.  You cannot gut this foundation without eventually toppling everything else.  This is what too many policy makers either don’t understand or refuse to face.  Or even worse, perhaps they do understand, but don’t care!

In any case, this revelation makes precisely my point about the need for Fed transparency.  This claim that the Fed should have “independence” is a canard.  They very much enjoy their comfortable pattern of bailing out friends and devaluing the currency with no oversight and no accountability.  Geithner specifically asked officials at AIG not to disclose to the SEC or to the public particulars about this special deal for his friends.  We only know these details now because AIG was eventually forthcoming when Congress demanded some answers.

We should be getting this information, and information on all such dealings, straight from the Fed.  The Fed should be accountable to Congress because it is a creature of Congress.  The Constitution gives Congress the authority to oversee the integrity of the monetary unit.  We have unwisely and unconstitutionally delegated this authority to the Federal Reserve, which has in turn devalued our dollar by 95 percent and counting.  When the Federal Reserve engages in harmful policies, Congress is still ultimately responsible.  If the Fed is not made accountable through a GAO audit at least, it will continue to be accountable to no one, and that is unacceptable.

Geithner expects to be praised and thanked for his actions instead of rebuked and fired.  He expects to be given more power to engage in “experimental” monetary policy in the future.  But he has just given us a very good idea of what the Fed and Treasury would do with more power, what they consider good monetary policy, and why they like their so-called independence.

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Will Banks Rescue FDIC?

By Robert J. Samuelson
NewsWeek

It seemed like a classic “man bites dog” story. America’s banks, having been repeatedly rescued by the government in the past 18 months, were about to turn the tables and rescue the government by lending billions of dollars to the beleaguered Federal Deposit Insurance Corporation. So reported The New York Times. Well, it could happen, but it’s a long shot, and even then, the banks wouldn’t quite be rescuing the FDIC.

True, the FDIC—which insures bank deposits up to $250,000—has experienced a dramatic decline in its cash reserves as more U.S. banks have failed. It needs money. So far in 2009, 94 banks have failed. At the end of June, the FDIC also had 416 banks with $300 billion in assets on its “problem list,” the largest number since 1994.

All this has had a devastating effect on the fund that the FDIC taps to pay depositors in failed banks. In mid-2008, the FDIC’s cash reserves totaled almost $56 billion. A year later, they had dropped to $42 billion and, worse, $32 billion of that was already committed to failures that the FDIC anticipated in the coming year. The remaining $10 billion is a thin cushion for additional failures. Indeed, the FDIC has projected that failures over the next five years will cost another $70 billion. Click here to find out more!

Where is the FDIC going to get the extra dough? In some ways, its plight isn’t as dire as it seems. Unlike most federal agencies, the FDIC isn’t supported by taxpayers. Fees on banks cover its costs. In 2009, those regular fees will total about $12 billion, and similar amounts can be expected in the future. The FDIC could supplement its regular fees with a special assessment. The agency did that in the second quarter of 2009, raising almost $6 billion. But there’s a catch: the fees count as a bank expense and, by dampening bank lending, may hamstring the economic recovery.

“What they’re learning is that such large expenses can do more harm than good,” says James Chessen, chief economist of the American Bankers Association. “It’s a hit to bank capital. It makes it more difficult for banks to lend in their communities.”

The FDIC could also borrow from the U.S. Treasury. It could receive up to $100 billion almost immediately, says FDIC spokesman Andrew Gray, and could go as high as $500 billion with approval from the Treasury and the Federal Reserve. But there may be political and public-relations obstacles. Shelia Bair, head of the FDIC, has had spats with the Treasury, and the Times quotes one industry official as saying that Bair “would take bamboo shoots under her nails before going to Tim Geithner and the Treasury for help.” Banks also dislike Treasury borrowing because it looks like another industry bailout.

It’s in this context that borrowing from banks themselves has been discussed. The banks would lend to the FDIC and would then be repaid from the future insurance fees levied on (yes) banks. Just whether the existing fees would suffice or future fees would have to be raised is unclear. Any Treasury borrowing would similarly be repaid from banks’ future insurance fees. “[I]t is a question of the timing of bank premiums, not of the willingness of banks to fully support the [FDIC],” Edward Yingling, head of the ABA, wrote Bair last week. However, FDIC spokesman Gray says that the bank borrowing is “not an option being given serious consideration.”

One other possibility is that the FDIC could advance all the quarterly fee payments for 2010 to the beginning of the year. This would provide more upfront cash to deal with failures, though it would not increase the FDIC’s total cash. The five-member FDIC board is expected to make some decision next week.

SOURCE: http://www.newsweek.com/id/215976?from=rss”>

Federal Reserve Admits Hiding Gold Swap Arrangements

Press Release
Source: Gold Anti-Trust Action Committee Inc.
On Wednesday September 23, 2009, 9:30 am EDT

MANCHESTER, Conn.–(BUSINESS WIRE)–The Federal Reserve System has disclosed to the Gold Anti-Trust Action Committee Inc. that it has gold swap arrangements with foreign banks that it does not want the public to know about.

The disclosure, GATA says, contradicts denials provided by the Fed to GATA in 2001 and suggests that the Fed is indeed very much involved in the surreptitious international central bank manipulation of the gold price particularly and the currency markets generally.

The Fed’s disclosure came this week in a letter to GATA’s Washington-area lawyer, William J. Olson of Vienna, Virginia (http://www.lawandfreedom.com/), denying GATA’s administrative appeal of a freedom-of-information request to the Fed for information about gold swaps, transactions in which monetary gold is temporarily exchanged between central banks or between central banks and bullion banks. (See the International Monetary Fund’s treatise on gold swaps here: http://www.imf.org/external/bopage/pdf/99-10.pdf.)

The letter, dated September 17 and written by Federal Reserve Board member Kevin M. Warsh (see http://www.federalreserve.gov/aboutthefed/bios/board/warsh.htm), formerly a member of the President’s Working Group on Financial Markets, detailed the Fed’s position that the gold swap records sought by GATA are exempt from disclosure under the U.S. Freedom of Information Act.

Warsh wrote in part: “In connection with your appeal, I have confirmed that the information withheld under Exemption 4 consists of confidential commercial or financial information relating to the operations of the Federal Reserve Banks that was obtained within the meaning of Exemption 4. This includes information relating to swap arrangements with foreign banks on behalf of the Federal Reserve System and is not the type of information that is customarily disclosed to the public. This information was properly withheld from you.”

When, in 2001, GATA discovered a reference to gold swaps in the minutes of the January 31-February 1, 1995, meeting of the Federal Reserve’s Federal Open Market Committee and pressed the Fed, through two U.S. senators, for an explanation, Fed Chairman Alan Greenspan denied that the Fed was involved in gold swaps in any way. Greenspan also produced a memorandum written by the Fed official who had been quoted about gold swaps in the FOMC minutes, FOMC General Counsel J. Virgil Mattingly, in which Mattingly denied making any such comments. (See http://www.gata.org/node/1181.)

The Fed’s September 17 letter to GATA confirming that the Fed has gold swap arrangements can be found here:

http://www.gata.org/files/GATAFedResponse-09-17-2009.pdf

While the letter, GATA says, is far from the first official admission of central bank scheming to suppress the price of gold (for documentation of some of these admissions, see http://www.gata.org/node/6242 and http://www.gata.org/node/7096), it comes at a sensitive time in the currency and gold markets. The U.S. dollar is showing unprecedented weakness, the gold price is showing unprecedented strength, Western European central banks appear to be withdrawing from gold sales and leasing, and the International Monetary Fund is being pressed to take the lead in the gold price suppression scheme by selling gold from its own supposed reserves in the guise of providing financial support for poor nations.

GATA will seek to bring a lawsuit in federal court to appeal the Fed’s denial of our freedom-of-information request. While this will require many thousands of dollars, the Fed’s admission that it aims to conceal documentation of its gold swap arrangements establishes that such a lawsuit would have a distinct target and not be just a fishing expedition.

In pursuit of such a lawsuit and its general objective of liberating the precious metals markets and making them fair and transparent, GATA again asks for financial support from the public and from all gold and silver mining companies that are not at the mercy of market-manipulating governments and banks. GATA is recognized by the U.S. Internal Revenue Service as a non-profit educational and civil rights organization and contributions to it are federally tax-exempt in the United States. For information on donating to GATA, please visit here:

http://www.gata.org/node/16

People also can help GATA by bringing this information to the attention of financial news organizations and urging them to investigate the Fed’s involvement in gold swaps particularly and the gold (and silver) price suppression generally.

Contact:

Gold Anti-Trust Action Committee Inc.
Chris Powell, Secretary/Treasurer, 860-646-0500×307