 | | The Daily Reckoning | Wednesday, August 17, 2011 |
- The curious and increasing role of “zeros” in the US economy...
- Why it no longer pays to save...
- Plus, Bill Bonner on Paul Krugman’s simple solution and the trouble with Argentine politics...
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|  | | | Multiplying by Zero | | |  | | Bill Bonner |
Reckoning today from Poitou, France...
Permanent zero. That’s what Edward Harrison calls the Fed’s new policy of guaranteeing ultra-low interest rates for the next 2 years.
But first, let’s look at what happened yesterday. Gold soared $21...again, setting a record.
The Dow fell 76 points. Not much of a follow up to the bullish day on Monday. Maybe investors are catching on. Maybe they realize that we are in a ‘zero stage” economy.
Zero is a funny number. It is not a number at all. When you say there are ‘zero’ donuts on the table, how many are there? None at all. There are no donuts on the table. So how many is zero?
And what happens when you add zeros together? Nothing. But when you multiply by zero something extraordinary happens...something becomes nothing. No kidding. Zero times 6 = 0. Zero times the entire federal deficit equals zero. Want to make something disappear? Multiply it by zero.
And what happens when you multiply a Great Correction economy by zero rates of interest? Hey, that’s what we’re finding out.
If a person is zero years old...how old are they? They have no age. They do not exist. Zero is empty...non-existent...it is nothing. It is a void. It is where the person who does not exist sits to drink his coffee.
But what is a void? It is like describing the universe. You may say that the universe began with the ‘big bang,’ but what was there before? Zero? No... There had to be something to blow up.
If you say the universe was a ‘giant void,’ it only raises our curiosity. How can a void be giant? And what exactly is in a void?
Let’s try to imagine something that is so small it has no dimensions. None. Take a measurement. Cut it in half. Do that again...and again...and no matter how many times you do it, you still have something. You can’t make the damned thing disappear! You can’t get to nothing, no matter how hard you try.
Therefore, zero – by definition – does not exist! And if it does not exist, there is no point in talking about it.
We only bring it up because zero is becoming a larger and larger part – if you can imagine it – of the US economy. Zero interest rates. Zero growth. Zero stock market appreciation. Zero housing gains. Zero new jobs.
Yes, dear reader...the economy is a Big, Fat Zero...
The whole thing is breathtakingly bizarre. The feds’ latest measure puts consumer inflation at more than zero – about 3%. John Williams’ Shadow Stats puts it at 11%. And yet, the Fed lends member banks money at zero interest.
It is not only giving money away, it has pledged to do so until the middle of 2013.
“Get it here! Free Money! Get your Free Money here! For the next 24 months!” Readers may think this is a good thing. Now, the banks know that all they have to do is to borrow the Fed’s money for nothing...and then lend it back to the federal government for 10 years at a higher rate. Maybe 2% higher. Two percent is not a lot. But the feds will borrow $3 trillion or so during that 2-year period. Let’s see, 2% of $3 trillion is $60 billion. Not bad. Especially for doing zero work.
In other words, for zero effort and at zero risk the banks will make beaucoup money from the Fed’s permanent zero interest rate policy. It is supposed to encourage them to borrow and lend...and thereby stimulate the economy to grow.
But we’ll make a prediction. No, several of them.
Bankers, being who they are, will still find a way to lose money. They are public utilities now, run largely for the benefit of their employees. Bank managers will suck out the profits, leaving banks severely undercapitalized. Then, when US Treasurys collapse, the banks will collapse too.
Another one: permanent zero is not just a policy measure...it’s a prediction and a curse. It is what you get when you take the road to Japan – permanently zero interest rates...and zero growth too.
And another one: when they multiply a permanent zero interest rate policy with an economy in a Great Correction they will get...zero. More below, after today’s guest essay...
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| | The Daily Reckoning Presents | | Bernanke to Savers: Save This! | |  | | Dan Amoss |
Last week, Fed Chairman Ben Bernanke shocked the world – or at least that portion of the world that tries to save money and earn interest – by announcing he would suppress short-term interest rates to near- zero until 2013.
Last Wednesday, the Chairman and his colleagues announced:
The [Federal Open Market] Committee currently anticipates that economic conditions – including low rates of resource utilization and a subdued outlook for inflation over the medium run – are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013. Applying this perspective to monetary policy, the Fed promises – i.e., threatens – to maintain its failed policy of suppressing short-term interest rates, thereby punishing savers and promoting debt accumulating and consumption. This is an inflationary policy, which will continue to fuel the cost pressures that are already unfolding at many US businesses.
The 2-Year Treasury note yield collapsed to below 0.2% in the wake of the Fed’s policy announcement last Tuesday. As recently as April, when the 2-Year note yielded 0.75%, the market was expecting Fed rate hikes at some point before 2013.
The Fed has effectively decreed that the US Treasury shall pay no interest on notes issued with a 2-year or lower maturity...and not much interest on notes all the way out to the 10-Year.
With this week’s announcement, the Fed pinned the front end of the yield curve to zero. This action will act to lower the average interest rate of the national debt over the next two years, which is a wealth transfer from savers to the federal government.
This is all part of the “financial repression” as outlined by Bill Gross of PIMCO: savers’ wealth stored in banks and Treasuries will be clipped by a few percent per year, as rates remain well below inflation. This inflation tax is a wealth transfer to the government as it gets to spend the newly created money first, before it gets transmitted through the banking system (losing value in the process).
Fast-forward to mid-2013: short-term rates are still near zero (in accordance with the Fed’s new guidance) and the national debt has grown from $14.3 trillion to more than $16 trillion. In 2013, the cost of this debt will depend more than ever on the Fed’s interest rate policy. As a result, the Fed will come under extreme political pressure to keep rates at or near zero.
There is a huge cost to the Fed’s decision on Tuesday: it has given away its ability to hike short-term rates in the event of a US dollar crisis. If foreign creditors accelerate the pace at which they’re already diversifying out of the dollar, inflation may pick up to uncomfortable levels. While the “money velocity” of domestically held dollars may remain low in a sluggish economy, the velocity of dollars held outside the US is likely to increase.
While banks and bond investors have renewed confidence that short- term rates will be near zero for the next two years, the Fed hasn’t bought itself a free lunch. Foreign creditors will continue to lose confidence in the US dollar as a store of value. The dollars that exist outside of the US as a result of past trade deficits – along with the future dollar “exports” – will not remain as sequestered as they have in the past. Their owners will look to exchange them for something with a better chance of preserving their purchasing power: gold, oil projects, farmland, mines, or blue chip stocks.
The Fed is gambling that these creditors will prefer stocks as a store of value. But given the past two weeks of trading, I’m not so sure about that. And how did QE2 ultimately work out as a market- propping manipulation? Where is the Russell 2000 now, Mr. Bernanke?
One thing is for sure: hoarding gold, oil, and other industrial commodities is now an even more attractive proposition than it was prior to Tuesday’s announcement from the Fed. Savers now know there is little chance of earning a positive real return until 2013.
Thanks for nothing, Ben!
Regards,
Dan Amoss,
for The Daily Reckoning
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| | | | Bill Bonner | | A Simple Solution to a Complex Economic Problem | | | | Bill Bonner |
“I’m not going to waste my time reading this Water for Elephants book,” said our mother, who will turn 90 next month. “It’s depressing.
“I just don’t have time to read bad books. I don’t have time to waste. Let young people read these trashy novels. I only have time for a few books, so I have to choose them carefully.”
“So, what are you going to read?” we asked.
“Well, I’m still working my way through the Bible, but it’s slow going. I don’t know if I’ll ever make it to the end. And I think I’ll read George Eliot’s The Mill on the Floss. I’ve never read it.
“I fell over on my right side last week. My right arm is almost paralyzed. And then I fell over on my left side yesterday. I feel like I’m falling apart. I’ll read fast.”
*** Here’s Paul Krugman with more advice:
For the fact is that right now the economy desperately needs a short-run fix. When you’re bleeding profusely from an open wound, you want a doctor who binds that wound up, not a doctor who lectures you on the importance of maintaining a healthy lifestyle as you get older. When millions of willing and able workers are unemployed, and economic potential is going to waste to the tune of almost $1 trillion a year, you want policy makers who work on a fast recovery, not people who lecture you on the need for long-run fiscal sustainability... What would a real response to our problems involve? First of all, it would involve more, not less, government spending. What a delight it must be! To see things so clearly... Without complications...or unintended consequences. When there is a problem – you just get a quack on the case and fix it.
Okay...sure....there are things that could go wrong. And maybe you’ll make the situation worse. But when you can’t worry about it. You just deal with the damned problem in front of you.
And yes, government could already owe far more money than it can ever repay. But, heck, we can’t worry about that either.
And yes, putting people to work is not as easy as it sounds...and of course, they won’t necessarily be doing things that are worth doing. Which means, they will be using up resources...the world’s wealth...and wasting it.
And yes...we would be taking a bankrupt borrower...and putting him further in the hole...so he can squander trillions more of the world’s real wealth...by ‘employing’ people to do things that they probably shouldn’t be doing (if they were worth doing...why weren’t they done by the private sector...or even by the public sector when it still had money to spend?)....and misleading investors, businessmen and households into thinking the economy is healthier that it really is...thereby causing them to make even more errors...
..But heck...stop complicating things! Stop worrying! We’ve got to keep this simple. Otherwise, we won’t be able to give such moronic advice.
*** “It looks like we’ll have Christina for a few years more,” said a friend from Argentina.
“She’s trouncing her opponents. She’s way ahead in the polls. And she’s giving away money – by increasing pension payouts – in advance of the election. She looks unstoppable.”
Argentina’s politics are simple enough – on the surface. In the 19th century, the country was controlled by large landowners. Food prices were high. Argentina has one of the most fertile and most productive agricultural regions in the world.
By the turn of the century, Argentina was rich. English gentlemen hoped to marry their daughters to Argentine farmers. Boatloads of immigrants arrived in Buenos Aires, a city so grand and beautiful it made New York look like a slum.
But the immigrants tended to stay in the city. Buenos Aires was beginning to develop an urban proletariat. And many of the immigrants – coming largely from Italy – had ideas about what the working classes should do. They formed unions...anarchist groups...and socialist political parties.
It wasn’t long before the mass of urbanites outweighed the few, rich old families out in the countryside. Thereafter, Argentine politics has largely been an open auction for votes in Buenos Aires. Whoever promises most benefits to the masses wins.
And then, the country goes broke.
“Argentina has a financial crisis about once every 10 years,” says our friend. “The politicians promise more than we can pay for. And then we have hyperinflation, defaults...bank closures. Happens every time. And we should be about ready for another one.”
Argentina’s politicians are smart. They promise the middle and lower classes a lot. But they also systematically cheat the masses. High rates of inflation rob them of their purchasing power. Listen up, Bachman, Perry, Clinton, et all. This is a system you might want to follow.
Herewith the latest news:
Ten years on from its debt default, the Argentine economy is booming: since 2001, GDP has grown by 79.5%, and the government forecasts further growth of 8.2% in 2011. But some are wondering whether this stellar growth seen in Argentina, and in other dynamic emerging economies, is sustainable.
The Economist recently published a study rating all countries on a number of criteria – including inflation, unemployment, GDP growth, excess credit, real interest rates and forecast change in current account balance – to test for signs of overheating. Argentina received a score of 100%, putting the country top of the list, and above other ‘high-risk’ nations such as Indonesia, Vietnam and Egypt. Are the good times coming to an end?
Much discredited government figures state an average inflation rate 8.6% over the past four years, whereas a consensus of private think- tank opinions suggest an average rate of 22.2%.
But the government denies inflation is an issue, claiming it is a media phenomenon whilst focusing on maintaining the high growth rate.
Herwin Loman, a South America economist from Rabobank, suggests the government may actually benefit from the current situation: “by having high inflation, and underreporting the inflation rate at the same time, the government can decrease the amount in real terms it has to pay on bonds on which the interest rate is linked to the (official) inflation rate.” Regards,
Bill Bonner,
for The Daily Reckoning |
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