Risk of 1937 relapse as Fed gives up fight against deflation

The US Federal Reserve has jumped the gun. It has mishandled its exit strategy from quantitative easing, triggering a global bond rout that it did not anticipate, and is struggling to control.

Federal Reserve Board Chairman Ben Bernanke appears before a House Budget Committee hearing on

That the Fed should tighten even as it cut its own growth and inflation forecasts for this year is a bizarre state of affairs Photo: Getty Images

Ambrose Evans-Pritchard

By Source: Telegraph, UK
5:51PM BST 26 Jun 2013

It has set off an emerging market shock and risks “blowback” from a fresh spasm of the eurozone debt crisis, and it is letting all this happen at the same time, before the US economy is safely out of the woods.

It has violated its own counter-deflation strategy, tightening monetary policy even though core PCE inflation has fallen to the lowest levels in living memory and below levels deemed dangerous enough in the past to warrant a blast of emergency stimulus. It is doing so even though the revival of bank lending has faded.

The entire pivot by the Federal Open Market Committee is mystifying, almost amateurish, and risks repeating the errors made by the Bank of Japan a decade ago, and perhaps repeating a mini-1937 when the Fed lost its nerve and tipped the US economy into a second leg of the Great Depression. “It’s all about tighter policy,” was the lonely lament by St Louis Fed chief James Bullard.

The Fed seems to be acting in the belief that the US economy will shake off this year’s fiscal tightening – 2pc to 3pc of GDP – and that a housing recovery is now entrenched. The sharp fall of Wall Street’s homebuilders index would suggest caution. Unlike the surging Case-Shiller index of house prices, it looks forward, not three months backwards.

The Fed could have kept policy steady, welcoming the shake-out in frothy markets over the past month as a useful “fire-drill” for future QE exit, without pushing its point too far. It chose to escalate.

It raised the unemployment target from 6.5pc to 7pc. It concocted feeble excuses to explain why it was ignoring a plunge in 10-year TIPS that serve as a proxy of long-term inflation worries. While still pretending that the pace of QE exit would be dictated by the health of the economy, it in fact set a date that disregards the economy. “Policy actions should be undertaken to meet policy objectives, not calendar objectives,” said Mr Bullard acidly in his dissent.

That the Fed should tighten even as it cut its own growth and inflation forecasts for this year is a bizarre state of affairs. “A more prudent approach would be to wait for more tangible signs that the economy was strengthening before making such an announcement. You can communicate it one way or another way, but the markets are saying that they’re pulling up the probability we’re going to withdraw from the QE program sooner than they expected, and that’s having a big influence,” said Mr Bullard.

Tim Duy from Fed Watch said the bank seems to be looking for any excuse to extricate itself from QE “as soon as possible”. Its reflexes have changed. It aims to press ahead with bond tapering come what may, retreating only if growth really tanks and news is shockingly bad.

This is not just a debate over whether or not to reverse QE, or whether markets have become addicted to Fed amphetamines. It is whether we still knows what is going on in the heads of those who command our destiny, those who have, with other central banks, bought up almost the entire $2 trillion issuance of AAA bonds worldwide over the past year, and therefore have become the market themselves.

The young Fed governor Ben Bernanke warned in his famous 2002 speech – entitled Deflation: Making Sure “It” Doesn’t Happen Here - how corrosive it would be if America began to slither down the same slope as Japan. “Sustained deflation can be highly destructive to a modern economy and should be strongly resisted,” he said.

Mr Bernanke then said that the Fed should maintain a safe “buffer zone” of 1pc to 3pc inflation to protect against shocks that could push the economy into a deflation vice. The chances of this happening are “remote indeed”, he assured us, because the Fed would deploy all means to prevent it ever happening. “The US government has a technology, called a printing press [or, today, its electronic equivalent], that allows it to produce as many US dollars as it wishes at essentially no cost.”

Does Mr Bernanke’s pledge still hold, now that he is talking down the relevance of PCE inflation at 0.7pc? Or has he taken to heart warnings from ex-governor Frederic Mishkin that the Fed itself risks becoming trapped if QE continues into 2014? Has he buckled to pressure from his own Advisory Council, who now warn that QE is doing more harm than good? Has he simply been outnumbered?

The Left-Keynesians are furious - “A grave error of policy,” said Berkeley professor Brad De Long – but so too are the monetarists, usually linked to the free-market Right.

US monetarist David Glasner says the Fed risks a “reprise of 1937″, an episode largely forgotten because the re-armament spending soon came to the rescue. Industrial output fell 30pc to 40pc, back to the levels of late 1933. The peak to trough contraction in GDP was 11pc. Unemployment jumped to 19pc.

The Fed Minutes of 1937 are worth reading, a window into error as it unfolded. As late as June that year the Fed still thought “there was little evidence at the present time of a recession, and that it was the general expectation that in any event recovery would be resumed by Fall [Autumn]“.

But then again, the Fed Minutes in the Spring of 2008 were no better. Then too they were talking tough – enough to push up long rates by 50 basis points – even though we now know that the US was already in deep recession. Robert Hetzel from the Richmond Fed says in his book The Great Recession that the FOMC’s refusal to respond to a collapse in the money supply led directly to the Fannie, Freddie, Lehman, AIG disaster that followed.

But if the Fed has erred again this time, it can’t hold a candle to the Bank for International Settlements (BIS). This club of central bankers – now entirely in thrall to the Bundesbank, and the liquidationist doctrines of the Chicago Fed circa 1931 – demanded a halt to QE this week, as well as rate rises, yet more fiscal tightening, and an even faster pace of credit deleveraging for good measure.

The American Nobel fraternity likes to accuse our own George Osborne of holding such views. This is calumny. Britain’s fiscal tightening is a calibrated 1pc of GDP each year, and it is offset by £375bn of QE. The Osborne view and the BIS view have nothing in common.

One thing is certain, if such a nihilist cocktail of BIS contraction were imposed on the world in its current condition, it would kill recovery altogether, throw millions more out of work, and probably extinguish a few democracies along the way. Hungary is half gone already.

It would cause debt trajectories to explode, and therefore prove self-defeating on its own terms. The ultimate outcome would be a chain of sovereign defaults and bank crashes. This is one way to achieve a cathartic debt jubilee and wipe the slate clean, I suppose, but by stone age methods, with stone age results. The US whittled down the debt burdens left from the Second World War (120pc) by gentler means, and so did the UK (200pc).

The BIS is, of course, right to warn that QE as currently implemented is fuelling asset bubbles, with junk bond yields falling to record lows, and a new rush into “covenant lite” debt for leveraged buy-outs. But it recoils from the awful implication of its analysis – awful for the BIS and central banks, that is – which is that other forms of QE should be found to inject stimulus directly into the veins of the economy, such as building roads or nuclear power stations.

Takahashi Korekiyo pursued just such a radical expirement in the early 1930s, turning the Bank of Japan into an arm of the treasury and forcing it to fund government spending until the economy was on its feet again. It worked like a charm. Neville Chamberlain tried a lesser variant in Britain, with success. The US Treasury took over the Fed in the 1940s.

Lord Turner, former head of the defunct Financial Services Authority, proposes such a plan today, should recovery falter. His softer version would preserve the independence of the Bank of England, allowing it to decide the right level of fiscal financing.

This is complex territory, and may prove an idle debate if the US does indeed achieve the Holy Grail of “escape velocity”. But if it doesn’t, and if the reason for abjuring low-inflation monetary stimulus is because it causes dangerous asset bubbles, then for goodness sake do it without causing asset bubbles. Little is beyond the wit of man. Unless you are a defeatist.

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9 Responses to Risk of 1937 relapse as Fed gives up fight against deflation

  1. Clara says:

    I don’t believe that the FED makes decisions in the “hopes” of an outcome. All decisions are well thought out and they know the outcome beforehand. What is happening now is what was expected. I think that the paragraph below best describes my sense of what is happening. This is just my take on it.

    “Takahashi Korekiyo pursued just such a radical expirement in the early 1930s, turning the Bank of Japan into an arm of the treasury and forcing it to fund government spending until the economy was on its feet again. It worked like a charm. Neville Chamberlain tried a lesser variant in Britain, with success. The US Treasury took over the Fed in the 1940s.”

    • “I don’t believe that the FED makes decisions in the “hopes” of an outcome. All decisions are well thought out and they know the outcome beforehand.”

      Exactly correct imvh&longtime-experienced_o. Those high-handed ones’ Vision may be severely limited indeed by their ingrained, deep-seated clinical-grade mammonism. But within that sick mammonotic sphere of theirs, they sure have got the deal down cold. Having lived through a few corporate downsizings and shutdowns in the course of my own pre-ordination career, I must point out that the moves – and the signs thereof when any part of said moves are made in secret – are the same every time. Only the scale of the operation and the events therein tends to obscure the insight of the observer when it’s such a large one as has been quite evidently initiated on the US.

      Of course, a leetle media-cover here and there don’t hurt (them).

      As to the Nation: She’s bankrupt, insolvent, looted-out and (much like the worn-out storage vessels at the infamous Hanford Nuclear Waste Disposal site) parting at the seams now from the corrosive rot contained within. So of COURSE the post-1938 mortgage-holding “Owners”(sic) cry out that they “Have No Choice” (their standard excuse for all war and destruction at their hands). To their own limited and opaque lights, the Grand Foreclosure and Liquidation of America MUST proceed.

      “…The US Treasury took over the Fed in the 1940s.”

      Again in light of the ruthless nature of the Bankster Class principals coupled with the venal nature of the typical career politician, frankly, I for one suspect that the who-took-over-who portions of that author’s paragraph have been reversed 180 degrees for the sake of Public Consumption. (Standard disinfo technique No. 4 iirc.) In each cited case, it seems to turn out post-merger that the cartel-owned Bank (and not the populace-owned National Treasury) came out “on top”, much to the slow but certain ruination of the formerly sovereign nation in question.

      For behold, THAT is the Rothschild Zionist Way. For that sort, there can be no other. The stealth-private Bank provides the “money”; the Owners thus need care not one bit who writes the laws.

      Few if any on old Foggy Bottom ground dare call that action “treason”, of course. There’s no money in that course… And that is all. 0{:-|o[

  2. You wanna know whats going on in ‘their’ heads? Read their oaths:

    I read somewhere that in 1938 all Americas judges, and many lawyers, were brought to a secret meeting, and told America was bankrupted, and would be enforcing ONLY ‘Admiralty’ law from then on (as if America was a ship, controlled by a captain, who is effectively a dictator, that capt. being the primary owners of the fed: http://www.dailypaul.com/77899/the-primary-owners-of-the-federal-reserve-bank-are), and they were instructed NOT to tell ANYONE! This is supposed to be why there is a gold fringe around every flag in court (“defamation of the flag” at the least, under our law).
    I found that there has been ZERO gold in the Federal Reserve since 1934: http://www.youtube.com/watch?v=Pl305N56CGY (And I am sure they took all the gold from Fort Knox before that, since the Federal Reserve ‘hypothecated’ all our property in 1913: http://www.babelmagazine.com/issue66/uscorporation.html).

    Just look at the fact that ‘inflation’ (devaluing of the ‘Dollar’) did not exist before the Federal Reserve: http://theeconomiccollapseblog.com/wp-content/uploads/2011/03/Inflation.png

    See how the singular cause of ‘inflation’ is the printing of too much money: http://research.stlouisfed.org/fred2/graph/?s%5B1%5D%5Bid%5D=BASE

    And the fact that ‘Federal Reserve Notes’ are NOT ‘legal tender’, but are in fact ‘counterfeit’ because they cannot therefore be ‘United States Dollars’:
    Section 10 – Powers prohibited of States
    “No State shall… coin Money; emit Bills of Credit; make any Thing but gold and silver Coin a Tender in Payment of Debts;”(Art.1,Sec.10)

    I also read somewhere that the actual cost to print a paper ‘Dollar’ is only $0.02, regardless of the number printed on it.

    THE FACT IS THEY ARE LYING, or they are suckers that have been tricked.

    Here is a link to my collected references: https://www.facebook.com/notes/harley-borgais/legal-citations-references-case-quotes-etc/4124446409605
    The actual file is here: http://freeornottobe.org/References%20for%20fighting%20in%20court.rtf
    (Its HUGE. I use ctrl+f to find keywords in it. Its messy too).
    [See the speeches relating to the "federal reserve"]

    The solution is clear, OBEY THE CONSTITUTION!
    The value of silver and gold coin are the most consistent throughout history, so if we just obey our Supreme Law, and use ONLY gold and silver coin (minted at U.S. Treasury, but not for decades, thanks to corruption of our govt. which WE have allowed to occur), then ‘inflation’ will NOT exist (just as it did NOT exist BEFORE the Federal Reserve started printing monopoly money and fooling us all into accepting it).
    harleyborgais at gmail, facebook and freeornottobe.org

    • Jean says:

      Harley, you hold so much info! It boggles my mind! Many thanks for sharing it . . . Hugs, ~Jean

    • Those who wish to gain the basis for what you remember so well, Friend Harley, should seek out :The Creature from Jekyll Island” by Edward griffin. “The UCC Connection” by one Howard freeman, a talented lover of Liberty with credits on many an episode of the old “Car 54 where ARE you?” TV comedy series is also key. Per ixquick search, both docs can be had from the upload-or-pay scribd site and several other explicitly Liberty-oriented sites.

      For those unfamiliar with this field of endeavor, Freeman’s core lecture as-transcribed outlines how HE learned of that massive fraud under which we are all expected to live compliantly to this day just as you cite.

      The good news is merely that the UCC text itself explicitly states that none of its provisions shall override Common Law. Thus we (who be savvy, at any rate) still enjoy common-law remedy for statute-law abuses, the which now burgeon in our faces every day.

      Education is key. THANK YOU for all those links and for all the work it clearly took to make ‘em possible to begin with! A substantial portion of your online material shall doubtless become a part of my own offline-accessible Local Liberty Library in due right-quick course. And that ain’t all. 0{:-)o[

      • Jean says:

        I agree with you, Rev.: Education is KEY, and thanks to Harley for all his research and terrific links . . . Hugs, ~Jean

      • Thank you Rev. Walking Turtle. I have heard of the UCC article, I forget if I read it yet, but none of my discoveries about law beat these three:
        This one teaches you how to use your birth cert. in court: How when you are asked if you are ‘JOHN DOE’ your response should be that you are making a ‘limited special appearance’ on behalf of: (point to birth cert. which is a ‘legal fiction’ because of the ALL CAPS (see us govt. style printing manual: capitalization), it cannot be a ‘Proper Noun’ nor a ‘common noun’)…YOU are the ‘beneficiary’ (only you can be since it is your birth cert), the court clerk becomes the ‘administrator’ of the account (the soc. sec. account) and the judge becomes the ‘trustee’, YOUR trustee, who you then order to dismiss the case ‘without prejudice’ (This is if you have not caused any harm, but are only in violation of some law/rule), which means it cannot be brought back up, and you instruct the judge (YOUR trustee) to order YOU compensation for damages for the ‘false arrest’ or ‘unlawful arrest’, and more.
        All of this is just a small fraction of one percent of what I have accumulated and put here:


        Soon I will likely add your references to it also. Thanks.
        There is also the cause and cure for disease, the worlds best energy generators (some use no fuel, and you can build them easy), and my theory: “How We Exist, The Genesis of Relativity”, which explains (possibly) the origin and nature of God, creation, all the big questions in physics, all the way to the end of the universe where the whole cycle repeats.
        You can ONLY ‘prove’ God with a logical, rational argument. Since He is said to have created all physical matter, you cannot use physical evidence to prove His existence.
        My theory starts and ends with total randomness, from which a reaction of two equal and opposite forces of pressure in motion at 90-degrees create spin, and the fundamental pattern of all creation: The Flower of Life (which matches the first photo of atoms).
        Its all there in that one link, for free!
        From now on that will be the central connection for ALL of the best info I wish to share.

        I am sure that when enough people wake up to these legal facts, the world will change for real. The most important of all the facts I have learned are that taxes on labor are not legal:
        And only hired ‘drivers’ and those using public roads for profit are required to have license and registration: “Slusher vs safety coach and Schuttlesworth vs Birmingham”
        [memorize those, and educate your local police, that will cause the biggest possible change of all I have figured out]
        ENJOY, and please spread as far and wide as possible.

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