June 6, 2011
Government-Assisted Economic SuicideBy Monty Pelerin
Quantitative Easing ends in June, according to Ben Bernanke's initial commitment. As June begins, the ending seems in doubt despite Fed statements regarding its imminent demise. These comments are perfunctory propaganda and will ultimately prove to be as premature as those of Mark Twain's misreported death. Twain eventually died; so too will QE. It just will not do so now, at least on a permanent basis.
There will likely be a face-saving pause, after which a new "crisis" will be discovered or imagined. The recent plunge in the stock market is a likely excuse if it continues, although nowhere in the Fed's charter does it suggest that "pumping" financial assets is a proper role.
There is no economic case for quantitative easing, nor has there ever been one. Quantitative easing is simply a political gimmick. Knowledgeable economists understood that QE2 would not produce economic improvement. "Rented" government economists (political mercenaries) argued for it on behalf of their bosses.
The results are now in and there are no surprises. Brett Arends of MarketWatch summarized it thusly:
QE2 has created a massive new bubble in dollar-based financial assets, from stocks to gold. Meanwhile, it has had zero visible effect on the real economy.
QE made matters worse in the sense that it prevented adjustments in relative prices and the liquidation of misallocated resources. These adjustments are necessary for any recovery to occur. As expressed by Pater Tenebrarum:
... the Fed managed to quickly arrest and reverse the liquidation of malinvestments. While this has averted more short term pain in 2009 -2010, the economy is now once again faced with having to deal with a distorted and discoordinated production structure that needs to be realigned with reality.
The political case for inflation or loose money is simple. It covers over (temporarily) the seriousness of underlying economic problems. It has been used in this country since the 1930s, when Keynesian economics provided "legitimacy" for interventions. Similar interventions have been documented for more than a thousand years in other countries. Nowhere have they worked other than to defer problems for an eventually bigger day of reckoning.
Look at some of the outcomes resulting from QE2:
Supporters claim QE2 created 700,000 new jobs. Mr. Arends points out that, if true, each new job cost $850,000 to create. To put this dubious (desperate) employment claim in perspective, the US economy normally creates about 1.5 million jobs during a six-month period. That is double what is claimed for the stimulus and generally occurs without any help from the government or the Fed. That amount of growth is necessary merely to keep pace with normal growth in the labor force.
A recent study by the Federal Reserve Bank of St. Louis questioned the validity of monetary policy as a policy tool for the economy. It determined that economic growth was higher in slow monetary growth periods:
Ironically, economic growth was higher in the years of slow money growth (3.7 percent) than it was in the years of rapid growth (3.2 percent). The same was true for industrial production. Meanwhile, the consumer price index rose 5.1 percent in years of above-average monetary growth and just 2.6 per- cent in below-average years.
The blogger using the name Tyler Durden commented on this Fed study:
QE not only does not result in relative economic outperformence (the opposite), it simply leads to higher inflation, and subdued economic growth. And the Chairman of the Federal Reserve was not aware of this data?
The blogger Mish provided his view of QE independently of the Fed findings:
Wages have not gone up, nor have housing prices, nor has employment, yet the Fed persists with failed policies that slowly destroy the middle class.
The Daily Reckoning commented on prices:
Import prices are also rocketing higher - up 2.2% in April, after a 2.6% jump the previous month. Year-over-year, import prices are up a hefty 11.1%. But once again, the trend is accelerating. For the first four months of this year, import prices have increased at a 26.7% annualized rate!
Pimco, the world's largest bond fund, was an early supporter of government interventions. The principals, Bill Gross, Paul McCully, and Mohamed El-Erian are Keynesian-activist government types. Bill Gross is now one of the biggest critics of US economic policy. According to Bloomberg:
The Federal Reserve's quantitative easing policy failed to meet the "ultimate objective" of boosting employment and economic growth, said Mohamed El-Erian, chief executive officer at Pacific Investment Management Co.
The Washington Post, long-time cheerleader for big government, now allows statements indicative of the despair and confusion amongst liberal ranks:
The economic recovery is faltering, and Washington is running out of ways to get it back on track.
All these comments/findings are consistent with sound economic theory. The St. Louis Fed data are consistent with centuries of data from around the world. Easy money does not work. If continued too long it always ends with destruction of the currency and social fabric of a nation.
The absurdity that printing money can improve the well-being of a people was demolished concisely by Ludwig von Mises:
If it were really possible to substitute credit expansion (cheap money) for the accumulation of capital goods by saving, there would not be any poverty in the world.
Despite centuries of economic wisdom and experience, the US government has pursued Keynesian nostrums for about 80 years. These policies failed during the Great Depression, despite the myths created by statist historians. While Keynesianism is bad economics, it is good politics. It enables politicians to cover up economic problems at least for a while. That is Keynesianism's great appeal -- it is a political rather than economic appeal. After all, governments do not solve problems; they either create them or hide them. Keynes provided the toolkit to do both.
The last three years have been an attempt to bury monstrous economic problems with government interventions. George W. Bush got away with it in the early 2000s with a credit explosion that appeared to solve immediate economic problems. Problems were not solved; they were hidden and in the process new and bigger ones were created. The most notable of these was the current housing crisis. Prior political regimes are no less guilty of the same behavior.
There are three problems with the Keynesian approach:
The US has reached point 3. Pater Tenebrarum believes point 3a has been reached:
If the economy can not even maintain a 'statistical recovery' in the face of massive monetary pumping and deficit spending, then this shows that the preceding credit expansions have fatally weakened the economy's ability to generate true wealth. The problem is no longer just cyclical, it has become structural.
According to Whether Tenebrarum, no amount of additional stimulus can remedy this problem. It really doesn't matter, because point 3b has also been reached -- we are out of resources. The Federal Reserve has more than tripled its balance sheet in the last three years. Additionally, the Federal Government has created about $5 Trillion in new debt to fund Keynesian stimuli.
There is nothing to show for squandering all these resources other than an increasingly insolvent government, an increasingly impoverished population, and a woefully imbalanced economy. It is time to face up to the fact that eight decades of Keynesian politics has hollowed out the economy, leaving us with massive distortions, imbalances, and unserviceable debt. More of the same medicine will only make each of these conditions worse.
The economic adjustments required now rival those of The Great Depression. They cannot be avoided by anything the government can do. Government can only make matters more intractable.
My guess is that politicians will choose to do more QE. They need to continue to hide the true nature of the economy however possible. It is all they know and all that stands between them and riots in the streets.
The end is known. Its timing and severity are not. Markets, rather than cowardly politicians, will determine both.
Monty Pelerin blogs at www.economicnoise.com.
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