You Can't Keep Drinking Forever
Much has been written regarding the economy and the Fed's Quantitative Easing (QE) policy. Many are applauding Fed Chairman Bernanke and touting the stock market as proof of economic growth. Unfortunately as John Adams said, "facts are stubborn things;" and since the laws of economics are as certain as gravity, another perspective might offer some differing conclusions.
Record market highs do not reflect wealth creation, productivity gains, or profitability via robust sales, and flat GDP numbers and high unemployment rates provide proof the market is, as always, a reflection of what the future holds.
Since the housing collapse in 2008, investors looking for safety turned to gold and other commodities as always in times of economic uncertainty. Today the record high stock market shows that self-interested investors, feeling the financial calamity has stabilized, have moved back into the market, where rising valuations are both a signal and a compensation for significant inflation that lies ahead.
The lure of large valuation increases and profit potential has furthered the rally, and the profitability seen in short- term gains has provided a false positive test of market strength. This behavior mirrors the actions of investors during the dot.com and housing craze, and we all know how that turned out.
The misallocation of capital into the market is the result of two basic facts: investors and business feeling there is no safer place to put their cash because of the risk involved in expanding and hiring workers in an uncertain economy and unprecedented money creation by the Fed which is reinflating the bank's balance sheets, making them a healthy profit without the pesky need to lend.
The initial Fed stabilization policies to avert another depression were probably warranted. However, the excess dollars created and caused by the command economists at the Fed under soft-sounding euphemisms like Operation Twist and Quantitative Easing only appear to be under control. What is "unseen" is that all the dollars created are being held in a vacuum; with any violation unleashing an explosion of high inflation and soaring interest rates.
The Fed should call their current program: Unaccountable Thinking of Perfection in Action (UTOPIA). Sadly, the blind elite can't find the intellectual maturity to realize that because of systemic causation and the laws of supply and demand they can't engineer an economy that they have even the slightest chance of controlling.
An interesting comparison can be made with the Fed's decisions in the 1930s to tighten the money supply, which sent investors running for Wall Street's doors, while under QE, investors are doing the opposite, running to Wall Street. If a collapse of the money supply caused massive constriction of the economy and depression, then an artificial infusion of money without the requisite productivity gains will cause a massive expansion in the economy via inflation.
In the short term, those owning stocks have built a hedge, the banking system is fat and happy, and the U.S. Treasury has benefitted from monetizing the debt and low interest rates. But the American consumer is about to get hammered again as his purchasing power is devastated. Couple this to stagnant wages and few job opportunities, and the economy may lock up.
One argument against this analysis is that no money is being created because the Fed's balance sheet does not change, since it is trading dollars for bonds. But dollars represent certificates of performance and wealth creation represents tangible scarce resources. On the other hand bonds represent an investment in dollars for future potential wealth creation. In short one is a realization while the other is only a hope -- hardly equal.
All the economic sleight of hand going on may create a false sense of security, but the laws of supply and demand do not change just because the supply is money and the demand has not yet materialized. David Boaz once said you can avoid the hangover costs of drinking if you just keep drinking; but you can't keep drinking forever. The Fed has been on successive binges caused by their failure to face the uncomfortable costs of their prior missteps. Their denial that they have a problem will only make the national detoxification more painful.