They're Getting Warmer...

JB Peebles sends a link to a pretty good article: "Time for Helicopter Ben to Drop Some Money on Main Street," by Ellen Brown at Truthout, dated 8 September 2010. I want to review that article now.

Excerpts from the original article are in the white boxes here, and my remarks (as always) are on the parchment. The purpose of this post is to compare and contrast my thinking with that expressed in the linked article.

The Federal Reserve is proposing another round of "quantitative easing," although the first round failed to reverse deflation. It failed because the money went to banks, which failed to lend it on. To reverse deflation, the money needs to be funneled directly to state and local economies. The Fed may not be authorized to "monetize" state bonds, but it COULD buy bonds issued by state-owned banks.


The first round of QE failed because the money went to banks, which failed to lend it on. Yes. The money needs to be funneled directly to state and local economies. Yes. The Fed should buy bonds issued by state-owned banks. No.

The economic problem is monetary imbalance: an excess of credit-in-use (which is measured by total debt outstanding) and a relative shortage of non-credit, "medium of exchange" money. This problem cannot be solved by issuing more bonds.

It seems logical enough. If there is insufficient money in the money supply (deflation), the solution is to put more money into it. But if deflation is so easy to fix, then why has the Fed's massive attempts to date failed to do the job?

The word "deflation" occurs four times in these first two excerpts. The Truthout article presents deflation as if we were deep into it. I am admittedly slow to notice things, but it seems to me we are still waiting to see whether the outcome will be inflation or deflation.

Worries about inflation do seem less common lately, now that I look for a juicy link. But many people are still hesitant to say deflation is here. And I see gasoline prices varying around the $3 level, not falling.

(Minor point: I think it is an odd visualization to say "If there is insufficient money in the money supply, put more money into it." The money supply is not a bucket that holds money. Money is the money supply.)

The mechanics of how QE works were revealed in a remarkable segment on National Public Radio on August 26, describing how a team of Fed employees bought $1.25 trillion in mortgage bonds beginning in late 2008. According to NPR:

"The Fed was able to spend so much money so quickly because it has a unique power: It can create money out of thin air, whenever it decides to do so. So ... the mortgage team would decide to buy a bond, they'd push a button on the computer - 'and voila, money is created.'


The "mechanics" of how it works is much like a description of how a transporter works on Star Trek: You just push a lever!

Reading the article, I was struck by how much Ellen Brown dwells on the creation of money from nothing. It seems to me that many many people, when they finally figure out the "money from nothing" thing, can focus on nothing else. When at last they see it, they see it as the central problem. Well, it's not the central problem. It is simply the way things are done. Don't sweat it. It's not a big deal. It's actually a good thing, or it would be if we had the sense to use it right.

"Extraordinary measures" was a reference to Section 13(3) of the Federal Reserve Act, which allows the Fed in "unusual and exigent circumstances" to buy "notes, drafts and bills of exchange" (debt instruments) from "any individual, partnership or corporation" satisfying its requirements. The Fed was supposedly engaging in these extraordinary measures to "reflate" the money supply and get credit flowing again. Yet, the money supply continued to shrink. The problem, as Roche explains, is that the dollars were merely being swapped for other highly liquid assets on bank balance sheets...

I would say yeah, Roche has a good explanation there.

So the Fed printed some dollars and used those dollars to buy up lots of "highly liquid assets" or "toxic assets" or debts on the verge of going bad. The banks (or whoever) that sold those toxic assets got money for them, and got rid of a lot of risk. So the banks were then in better shape. And the whole financial system was no longer in danger of imminent collapse. All well and good.

But what about the poor bastards in danger of losing their homes? Not only the banks were facing big losses. Now the banks have been rescued. The poor bastards have not.

Suppose the Fed printed some dollars and used those dollars to pay off a lot of debt for a lot of people. Where would the money go? It would go to the banks!! Where would the debt go that was paid off? It would go away. And where would the money go that was printed? It would be destroyed by the repayment of debt.

After that, people would have a lot less debt. We'd be better able to meet our remaining expenses. We might even be tempted to buy more on credit -- which is the way we make the economy grow. (Yeah, we have to fix that problem, too. But not in this post.)

And banks would have a lot less assets earning income, and a lot more credit available to lend, because old debts were paid off. And if the banks wanted to increase their earnings, they would have to increase their lending. And again, that is the way we make the economy grow.

And we could make all this happen, by having the Fed print money and use it to pay down debt for people. But while it is legal for the Fed to buy debt from individuals, perhaps it is not legal for the Fed to pay off debt for individuals. I would say the people who messed up the economy with their policies should just admit they made mistakes, and do a quick-fix to solve the problem. But they won't.

But maybe Congress would like the idea of taking a trillion or two of new dollars from the Fed, and then Congress could pay down our debt for us. Yeah. They might all want to get in on that.

A bit farther down, under the heading
The Textbook Money Multiplier Model … and Why It Is Obsolete

we have
The theory is that increasing the banks' reserves will stimulate this process, but both the Federal Reserve and the Bank for International Settlements (BIS) now concede that the process has not been working in the textbook way...

In other words, the Federal Reserve and the Bank for International Settlements do not understand what the economy is doing.

The article quotes from "a BIS working paper called 'Unconventional Monetary Policies: An Appraisal,' as follows:
"[T]he level of reserves hardly figures in banks' lending decisions. The amount of credit outstanding is determined by banks' willingness to supply loans, based on perceived risk-return trade-offs, and by the demand for those loans. . . .

To restore economic growth, in an economy that relies on credit as heavily as we do, it is necessary (1) to restore "banks' willingness to supply loans," and (2) to restore "the demand for those loans."

These requirements can be most easily met by simply eliminating existing debt by one means or another. (I propose to print money and use it to pay off a bunch of that debt.)

The BIS working paper quote continues:
"The aggregate availability of bank reserves does not constrain the expansion [of credit] directly. The reason is simple: ... in order to avoid extreme volatility in the interest rate, central banks supply reserves as demanded by the system...

Central banks supply reserves to other banks, which the other banks lend out, creating more debt in the economy. That's the way our monetary system works.

The operating principles are in error. An economy needs to have mostly non-credit money as a medium of exchange, not mostly credit-in-use.

Anyway, if the Fed is gonna create reserves on demand, then that's a good reason we need anti-inflation policy in our tax code.

Another interesting aside arising from all this is the suggestion that the government could actually print its way out of debt - it could print dollars and buy back its bonds - without creating inflation...

Without creating inflation? Easier said than done.

Perhaps the plan would work -- now, while we have monetary imbalance. But with that plan in place, it won't be long before the imbalance is corrected, and then prices will be going up like crazy, and policymakers won't understand why.

Anyway, if you print money and buy back bonds, the money is going to people who have so much money they don't have to spend it. I say, print money and use it to pay down debt. The creditors get it, anyway.

The failed QE experiments in Japan and the US suggest, however, that there is a third alternative. Printing dollars to pay the debt (referred to by Russell as "inflating the debt away") might actually eliminate the debt without creating inflation...

Yeah, that's what I'm saying. Yeah. But in the article when they say "eliminate the debt" they're talking about eliminating the federal debt.

We'll get better results if we print money and use it to pay down private-sector debt, people's debt, mortgage and credit card debt and such. Reduce debt in the sector where debt must be reduced before the economy will grow again.

Then, when the economy begins to achieve sustained growth at a healthy rate, the federal debt will fall, effortlessly.