STAFF NEWS & ANALYSIS
Klarman Yelp: The Fed Has No Clothes
By Staff News & Analysis - March 12, 2013

Seth Klarman Goes Nuts On The Fed In His Latest Investor Letter … Seth Klarman, the legendary head of Boston based hedge fund Baupost Group, sent out his letter to investors this week. He reports that his fund is up for the month, quarter, and year, but is sending out specifics in separate quarterly reports. That said: The juicy part of this letter has nothing to do with specific investments or anything like that. What's interesting is that, like some of his industry peers (David Einhorn), Klarman has words for the Fed, and those words are all about QE3. He said that like QE1 and QE2, QE3 is no lasting solution. He sees it, instead, as "attempted manipulation of Americans' behavior." – Business Insider

Dominant Social Theme: The Fed has handled a dire economic situation wonderfully well and Ben Bernanke has been a masterful magician.

Free-Market Analysis: This yelp from Klarman (above) is worth noting because the atmosphere of intimidation and fear surround the Federal Reserve is palpable and precludes obvious criticisms.

We've often compared what is going to the famous fable, The Emperor's Clothes. In this tale, a powerful emperor is tricked into believing he is wearing beautifully made garments when in fact he is entirely naked. Everyone is too afraid to tell him, however, until finally a child points out the truth during a parade and the spell is broken.

We are not comparing Klarman to a child, only observing that the Fed has woven a similar magic spell of intimidation around Washington DC and the mainstream media. Money Power – at the levels where it is actually operative – is formidable and people do not lightly challenge it. For years, libertarian congressman Ron Paul was the only political rep willing to say a harsh word about the system itself.

Klarman, in fact, doesn't criticize the system either, but he comes close enough with a statement calling the Fed's various easing a "manipulation." Here's more, from the letter:

While anyone would be glad to have a cheaper mortgage as a result of QE3, would they really believe this would make their home worth more? It's more of a credit holiday, whereby the government offers you better terms than previously available. In addition to making explicit the implicit U.S. government guarantee of more and more of the U.S. residential mortgage market, the rousing stock market approval of this measure is seen as a free lunch. But of course it is not free….

What kind of policy is this: untested; inflationary; eroding free market signals, diverting more of the country's resources toward housing at the expense of priorities such as infrastructure, technology, or science and medical research; and inevitably only a temporary fix with no enduring benefit?…

Finally, we must the morality of Fed programs that trick people (as if they were Pavlov's dogs) into behaviors that are adverse to their own long-term best interest. What kind of government entity cajoles' savers to spend, when years of and overspending have left the consumer in terrible shape? What kind of entity tricks its citizens into paying higher and higher prices to buy stocks? What kind of entity drives the return on retirees' savings to Zero for seven years (2008-2015 and counting) in order to rescue poorly managed banks? Not the kind that should play this large a role in the economy.

Much of this kind of rhetoric can be found posted at various alternative media websites, especially those espousing free-market solutions to government-created problems. Often, these websites are mocked by mainstream publications because they are voicing opinions outside of the norm, especially when it comes to central banking.

Yet here we have Klarman giving voice to biting criticisms that are actually more forceful than those usually found in the mainstream media and even in some of the alternative media.

It is not clear what prompted Klarman to make his opinion known. But it does point out, once again, that alternative media critiques are indeed shared by some in the mainstream money business and if what the Fed is doing now goes badly wrong the finger pointing will be both immediate and aggressive.

Fear regarding Fed manipulations lays on Washington DC – as it has before – like a thick blanket. But underneath simmers a good deal of resentment and frustration. What happens when the spell is broken, as inevitably it must be?

After Thoughts

Klarman's yelp points us toward the possibility of a larger crisis of confidence, perhaps a very large one, indeed.

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