Kick the Can; Ponzi Schemes, QE2, and the Beauty of an Unbalanced Budget

Just yesterday the Fed announced the size and scope of their much touted QE2 program; the systematic (re) inflation of our currency – and the continued inflation of the US bond-market.  I understand that deflation is very scary, and the Fed is targeting a higher level of inflation (more dollars swirling around, and worth less than they are now) in order to help stimulate some recovery. Though the principal of what has been done, and what is being done, seem logical in a classroom (or a controlled experiment); we face a different kind of reality today.

I haven’t heard many people ask about all of that stimulus that was supposed to flood the system many months ago.  The answer is that (we won’t get into how poorly spent it was) much of the money was either hoarded by companies (largely by banks) or shipped overseas to take advantage of favorable investment opportunities and rates abroad (that money is now sitting in foreign banks).  You see, for inflation to really occur we need something called increased ‘velocity of money’ (money being loaned, deposited, loaned again….creates a multiplier effect that helps create inflation [more money]); but no one loaned much (any) money.

Presumably if QE2 works we will see lower interest rates in the future (from all the bond buying) and yet the US is, all the while, running a $1 Trillion + annual deficit through next year – so we’ll also be selling more bonds to pay for the budget deficit.  This is a ponzi scheme, plain and simple.

There are so many (potential)  ulterior motives at play here it is incredible:

  • Other nations have balked at continuing to hold our currency in their reserves in recent years, and it is the interest of the US to add buying the Treasury market (keep rates low) as they keep selling more debt – it will cost less.
  • The fed insists on buying as much short-term ( that will expire in the next half-dozen years) debt as possible; essentially buying back substantial portions of debt, that our country would have had to pay back fairly soon, with newly printed money (as supposed to paying with money we actually ‘have’).
  • Since we run a ‘trade-deficit’, the US (and it’s companies) routinely owe substantial sums of money to foreign countries/companies; if we print more money it will be worth less, and if our ‘bill’ is in dollars than we (the government at least) gets to settle the score with same number of dollars though they are now worth less (bankrupt countries do this and it’s called ‘currency devaluation’).
  • More often it isn’t that we owe, it is that we pay for our goods in dollars; it is all these dollars that we use to buy good overseas that are then used to buy US debt – what else would they do with it?  They often trust our currency more than their own.
  • Our country assumes that our deficit (and our economy) is a bigger problem now than it will be in the future; why else would we push rates so low, particularly in the short-term, but sell almost all of our debt in the short-term so we have to pay it back very soon?
    • We have already overestimated the pace of our recovery; accordingly our current strategy is the same one that a country might use if it had realized that its’ economy wouldn’t be strong enough to pay its’ bills when they were due – and we don’t/won’t unless we print.
    • At some point the world’s appetite for our debt will relent; at that point the rates the US pays on newly minted debt will begin to rise ( the end of a 30-year bull market in bonds); almost everyone who owns bonds (especially mid to long-term) will be compelled to hold their bonds until maturity – they seem safe,and who’d want to take a loss when they can hold: but what will those dollars be ‘worth’?
  • We have been kicking the debt ‘can’ down the road for 30-years; at every kick it seems to pick up a few trillion and the Fed creates a bubble to save-off an impending recession; and every-time we have the recession we can’t believe the bubble we just saw (and how we didn’t see it coming).

A Ponzi scheme is a fraudulent investment operation that pays returns to separate investors from their own money or money paid by subsequent investors, rather than from any actual profit earned. …

–  If you’re able to print money, then you’d be able to replace (some of ) the above  ‘new’ investors; otherwise, the process remains the same.

It’s not that it’s not the right move, it’s not that it isn’t good, sound, monetary policy, it is because the largest holder of US government debt is actually the American people!  This is a game of musical chairs, essentially, and at this rate if the music ever stops (it always stops), we’re going to be the ones without a seat.

One Response to Kick the Can; Ponzi Schemes, QE2, and the Beauty of an Unbalanced Budget

  1. Andre Zdanow says:

    For those of you who’d like some stats on major holders of US debt, here you go:

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