From Fed’s $4 Trillion Rescue Helps Hedge Fund as Savers Hurt:
He said last week that the policies are intended to “try and create a stronger economy, more jobs, so that folks across the country, including places like the one where I grew up, will have more opportunity to have better lives for themselves.”
Bernanke said last week the central bank will purchase $85 billion of assets a month next year “to increase the near-term momentum of the economy.”
Purchasing assets removes those assets from the economy and replaces them with new money. But what is an asset? An asset is somebody's liability.
I buy a house. I get a mortgage to buy the house. The house is my asset and the mortgage is my liability. Forget about the house.
I get a mortgage. I get an asset (the house. Forget about the house), and the lender gets an asset. The asset the lender gets is my promise to pay back the loan.
My promise to pay back the loan is my liability. It influences all my spending decisions for the next 30 years.
My IOU is an asset to the person I am paying, and it is a liability to me because I am paying. The fact that I'm paying is what makes the IOU an asset to the other guy.
Along comes the Fed, giddy buyer of assets. The Fed buys my IOU from my lender and pays the lender with the-ink-is-still-wet money.
The... what do they say? The "composition of the bank balance sheets" has changed. Yeah, okay, fine. The guy that used to have my IOU now has cash. He got satisfaction. He got what he expected to get, eventually, for the IOU. But there is more to the story than that.
The Fed buys the IOU from my lender. The lender gets cash. And I get to make the same payments I made before, except now I pay somebody else. That really doesn't do much for me. It doesn't do much for the economy, either.
Purchasing assets removes those assets from the economy, replacing them with money. But the liabilities remain as they were: draining income, depressing demand, hindering economic growth.
If I'm just squeakin by, barely getting from paycheck to paycheck or maybe not even, I don't give a rat's ass if I'm paying the original lender or the asset-buyer of last resort. I have more pressing concerns.
Those concerns are not addressed by the Fed's asset purchase policy.
Now, if the Fed bought my IOU and cancelled it, it would remove a liability from the economy. This is what needs to be done to bring our economy back to life: Reduction of liabilities, not assets.
Remember back when this whole thing started, the word of the day was "deleverage". People wanted to reduce their debt: People wanted to reduce their liabilities.
The catch-phrase at the time was "toxic assets". What is a toxic asset? Something like my IOU if I'm failing to make the payments. Toxic assets are liabilities going bad.
What the Fed did was, it started buying the toxic assets. Started buying the bad IOUs. It took bad IOUs out of the economy and replaced them with new money. But the IOUs still exist, and they are still iffy. Meanwhile, we are still trying to make the payments, and this is still undermining demand and hindering economic growth.
See the problem?