THE US REPORT

by Roger King

Roger King, contributor to The US Report. Click the photo to visit King's website.Although the recession has left many hurting and out of work, the feds are implementing an unproven theory called "quantitative easing." This approach has the potential of not only causing a depression but hyper-inflation as well. What has occurred to cause the Feds to implement this action? Walt Zimmerman vice-president of United ICAP explains that our economy is experiencing a combination of collapsing equity markets, real estate markets and commodity markets. This combination of events is so rare that it has not occurred since the Great Depression. Zimmerman explained the circumstances of a hyper-inflationary depression on Glenn Beck (Mar. 19). Follow the link in 'References' below to see the video at YouTube.

The New York Times (Mar. 23, ’09) said, "Federal Reserve Chairman Ben S. Bernanke, initially criticized for being too academic and slow to respond to market worries, has presided over some of the most interventionist and controversial Fed actions since the central bank’s founding in 1913." So why would the very liberal NYT see Bernanke's actions as interventionist and controversial?

Bernanke, regarded by many as an academic expert on the Great Depression, no doubt realizes the government is inflicting too much tax-hiking, tinkering and anti-business actions. So to shorten the recession and avert a depression, the Fed is using so-called "quantitative easing," which is both momentous and perilous. QE works on the theory that by injecting vast sums of money into the economy, our deflationary period will be halted. With interest rates at all time lows, Bernanke probably thinks this is the only real arrow left in his quiver.

In the last 5 months, according to the Federal Reserve Board, the money supply in the United States increased by 271 percent. Now Bernanke has injected an extra $1 trillion into the financial system by purchasing US Treasury bonds and mortgage securities.

As Zimmerman noted, what is critical in this theory is  accurately timing  when to stop printing and spending money. For this to work the Feds must stop spending just before deflation ends. The kicker is knowing when deflation bottoms out, which is extremely difficult. If the Feds' timing is just right the economy recovers. However, if they don't stop the spending frenzy by the time inflation begins, it's entirely possible to have a depression with runaway inflation similar to what Zimbabwe is suffering. Regardless of the result, the money will have to be paid back in the form of either higher taxes or inflation.

Logic would tell you that solving the problem of a maxed out credit card is to pay it down instead of extending the credit limit. The US has chosen to extend our credit limit in an attempt to help in the short term but this tactic has to bring us even greater pain in the long run. To give some perspective on all this spending, $1 trillion dollars equates to $3,300 for each man, woman and child in the US. Sounds like a lot of money but there is more.

In 2008 our nation's debt was $10 trillion, however our total financial liabilities—explicit debts and unfunded obligations—exceed $65 trillion. By comparison, the U.S. gross domestic product is $14 trillion. If we taxed everything earned in our country it would pay off our debt but it would take nearly 5 years to pay off our unfunded obligations. Another way to look at this is our country's entire net worth was $51.5 trillion last year. Whoops, our country's entire worth is still $13.5 trillion short of paying off our total unfunded debt. Hopefully you can begin to see what a bind all this spending is creating for the future of our country.

The bottom line is if people think the fed is panicking, businesses won't hire, banks won't lend and consumers won't spend. The danger posed by all these actions is the Fed is trying to abbreviate the recession. The housing, equity and commodity bubble collapsed in part because of over-spending instead of increasing savings and increasing real production. As hard as it sounds, many of us believe the best way to recover is to let the cycle run its course.

So what is the right way out of this recession? First, let’s talk about recessions and why they should be allowed to proceed. A recession is a natural part of any economy, regardless of whether we are talking about socialism or capitalism. When housing, equity or commodities become over-valued they sooner or later will have to return to a point of equilibrium. Essentially a recession is just the natural resetting of prices. If this process is not allowed to occur then subsequent growth either will not occur or will occur on a very restricted basis.

A healthy economy should be a balance of spending and production. Sadly, right now we are spending at a rate of 70 percent but only producing at a rate of 30 percent. Yet both parties of our government seem to want us to spend more which is in large part what got us into this mess to start with. This is like trying to cure a hangover with more vodka. It may work for a short time but that headache comes back even worse.

The key to a recovery is to increase production and savings. Only by taking raw materials and producing something that is worth more than its parts can we grow our economy in a healthy manner. Business must be seen as the solution and not the problem. Taxes need to drop on businesses and the upper income quintiles so money can be invested in business growth. Those companies that have bad business practices should be allowed to fail. Once businesses see success they will be rewarded, then they will feel safe to expand and the people will feel safe to start spending again.

It's impossible to short circuit a process that has to run its course. Either pay me now or pay me later is a good thing to keep in mind. Bernanke is taking a trillion dollar gamble on an economic approach many economists find unacceptable.

Ed. Note: For additional reading and sources, follow the links in ‘References’ below.