Central Banking Tsunami
By Staff News & Analysis - January 14, 2011

Bernanke: Expect 3 to 4% growth in U.S. economy in 2011 … ABC News' Arlette Saenz reports: Fed Chairman Ben Bernanke said the economy will see a three to four percent growth in 2011, but it will not hasten the reduction in unemployment. "We see the economy strengthening. It's looked better in the past few months," Bernanke said. "We think a 3 to 4 percent growth number for 2011 seems reasonable … That's not going to reduce unemployment at the pace that we'd like it to, but certainly, it'd be good to see the economy growing and that means more sales, more business." Bernanke's comments came at a small business forum where he discussed topics ranging from the availability of credit to small businesses to the need for prudent banking. "We got in trouble in the first place by making too many bad loans, right. So you've got to make good loans. We've got to have credit worthy borrowers." – ABC

Dominant Social Theme: Things are getting much better.

Free-Market Analysis: Very interesting. The economy will grow by three to four percent in 2011, according to Federal Reserve Chairman Ben Bernanke, but unemployment will remain. Meanwhile, according to Bernanke, the horrid spectre of deflation has been averted for the moment. Finally, banks are getting back to basics and making "prudent loans," instead of rash ones that led to the "trouble" of 2008. Really folks, what's this man smoking?

Reality and Bernanke continue to diverge in our opinion. There are three reasons for this. First of all, the numbers that estimate economic growth in the US are fairly suspect, as suspect as the "unemployment rate" in fact. Second, deflation is probably not the real problem that the US will face in the future. Third, it wasn't banks making bad loans that caused the systemic problems of the 2008; it was endless money stimulation over at least three decades that introduced intolerable distortions. Don't take our word for it. Here's an excerpt from an editorial that appeared in Forbes by Reuven Brenner, who holds the Repap Chair at McGill's Desautels Faculty of Management:

Ben Bernanke's Elixir: Mixing Monetary Nonsense … The long-term impact of what Ben Bernanke is doing is disastrous for the United States. His policies prevent the dollar value of assets on banks' balance sheets from falling, thus keeping poorly managed banks in business. This policy is dragging down the dollar, prolonging the crisis, and slowing down the U.S. recovery.

There's no need to go into any macroeconomic gobbledygook, technical vocabularies of QEs and monetary policy to understand this. And there's no need to delve into elusive debates about just what do central bankers mean when they talk non-stop about how they mitigate undefined "risks." … The present policies of the Fed achieve one thing: They keep the banks in business by sustaining the nominal dollar value of bank assets. After all, there are only two ways to sustain (or increase) the dollar value of assets on the banks' books …

The Federal Reserve is currently preventing the dollar-value of assets on the banks' balance sheets from falling; real estate in particular, but also securities traded on the stock market. That is what a zero interest rate achieves: it allows banks to stay solvent and prevents nominal values on their balance sheets from falling … A side effect of the Fed's zero-interest policy is that it reduces the value of the dollar. The country is in fact becoming poorer. Worse, the banks are not put on firmer footing. Although the Fed is restoring the banks' capital, the policy cannot create competent bankers.

While Brenner's diagnosis is grim, he believes that the Fed's policies have been mitigated by similar policies in other countries such as Russia and Brazil and whole regions such as the EU. He has a point. The central banking economy is worldwide now and all regions are essentially engaged in a "race to the bottom" – debasing their currencies by printing too much – in order to prevent a strong currency from interfering with trade.

Of course, misery may love company, but that doesn't necessarily alleviate it. The Fed is still the central bank that stirs the drink. Recent audits reportedly show that the Fed printed trillions and gave them away not just to US companies but to a startlingly broad spectrum of financial and corporate institutions overseas in Europe and even Asia. As we have often pointed out, the current economic system is an Anglo-American one and when it collapsed in 2008, the Fed raced to the rescue.

But make no mistake: the dollar-reserve system died in 2008. Not banks, not just multinational corporations, not even whole countries … the entire, dollar-based world was basically faced with a rolling insolvency. That's what happens when economic imbalances get too big and financial distortions become intolerable. And so the Fed printed money – and other central banks did too.

Back then we estimated that total amount of money printing by central banks to save the system might amount to US$100 trillion, and estimates are that the Fed alone may have injected some US$20 trillion into the world's economy. (Nobody outside the Fed really knows for sure right now.) We figure in aggregate other countries have done about the same. Peg the total amount printed by the world's central bank to "reliquify" the system at US$50 trillion. We're halfway there.

There are consequences of course. We remember in the 1970s, Paul Volcker took over the US central bank and pushed interest rates up near 20 percent to control that country's raging price inflation. But Volcker didn't have to contend with US$50 trillion in excess paper sloshing around the world. Inevitably, it will prove impossible to "sterilize" these massive amounts of currency. Eventually it will not be price deflation that Bernanke has to worry about but price INFLATION. Serious inflation.

The 2000s are like the 1970s on steroids. It took 20 percent interest rates to freeze the American economy and stop the price-inflation cycle in 1981. But the resultant recession was as severe as any America has had in recent memory. What is it going to take to stop the price-inflation in the 2000s? Fifty percent interest rates? It is nearly impossible in our view. Bernanke is predicting "modest growth" in America for 2011. But this is like predicting a sunny day at the beach when far out at sea a tsunami has formed and is heading for shore.

There are other ramifications to what the current crop of central bankers have done. Bernanke et al. haven't really saved the system; they've simply kept it afloat. And what have they accomplished? The banking industry simply remains cocooned inside the world's biggest bubble. Central banking itself is a bubble though people don't think of it that way, but those who print the money decide which industries expand – and no self-respecting central banker is going to let the central-bank distribution system (commercial banks) deflate. And so the banking business just gets bigger and bigger.

There is no reason for such a big banking industry. In fact, banks, at root, are nothing but money-warehouses; during the industrial revolution, funding for businesses often came locally, from extended families and partnerships. But that is not how our modern economy works. Central banks have created a massive, Western banking infrastructure and they use it to fund massive multinational companies – and this results in a kind of Anglosphere brand imperialism. Coca-Cola and Kentucky Fried Chicken are to be found throughout the world. The world may not need Coca-Cola, but the powerful dollar reserve system has made Coke's ubiquitiousness possible.

As we have pointed out, the West's industrial system – especially America's – was insolvent in 2008. Printing up to US$50 trillion worldwide has ameliorated the insolvency but not basic problem, which is one of economic distortion. There is no way of knowing today what companies are serving a legitimate marketplace need and what firms have merely stayed in business thanks to central banking funding.

Is GM a viable company, for instance? It has received billions in funding from the government and from a public stock offering, but has all this money reinvigorated a failing firm or merely postponed the inevitable decline? By propping up so many companies, central banks have made it impossible for the Invisible Hand to sort through enterprises and weed out the weak. This is why unemployment remains high in America and Europe. Few are willing to lend because is not possible to identify what companies are healthy. This is not a local phenomenon. The Anglosphere's central banking economy has spread the distortion across continents.

The problem of unemployment will not go away easily this time because the system itself, massively distorted, is going to take years to unwind. This game will played until currency inflation begins to manifest itself as economies "recover." Then central bankers, inevitably will begin to raise rates. The result will be either another downturn or galloping price inflation. But this time, either alternative is going to be far more extreme than in the 1970s in our view because the collapse has been so much bigger and the antidote – money printing – has been massive.

After Thoughts

Ultimately, Ben Bernanke is confident that the "economy" is coming back; from our view he has merely reinflated a fiat money bubble and made it possible for an impossibly bloated banking system and related multinational appendages to continue to function. The distortions remain along with inflation. Hear the rumble of the tsunami? If you do, seek shelter in gold and silver.

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