Friday, July 15, 2011

Bernanke disingenuous about QE2, money supply and creating reserves.

Ben Bernanke was disingenuous when he testified before the House Financial Services Committee on Wednesday. He again put forward the idea that quantitative easing does not increase the money supply. Please take a look at the following clip:




Quantitative easing is a little convoluted and many of our leaders seem confused with the process. Here is what actually happens: Congress and the President spend more money than they receive. They then sell Treasury bonds to raise money to pay these bills. These Treasury bonds are purchased by primary dealers such as J.P. Morgan and Goldman, Sachs. The Federal Reserve goes to these primary dealers and repurchases some of these Treasury bonds.

Bernanke states the Fed pays a primary dealer for Treasury bonds by increasing its funds held on reserve with the Fed; this is a direct increase of money supply because money is fungible. The primary dealer can now lend out a multiple of this money as normal, a secondary increase of supply.

To further explain, banks take the money they receive and lend it out to others. This means that the money the bank holds (its reserves) is only a portion of what is on deposit with the bank. We call this system fractional reserve banking and recognize that banks increase the money supply and are said to create money.

When the Fed increases a primary dealer’s reserves it is creating money. Bernanke needs to do a better job of explaining the aforementioned to our leaders and better make his arguments about why he believes this monetary policy is sound. He could also admit that we are, to some degree, monetizing the debt through this process.

Thursday, July 14, 2011

Grover Norquist on C-Span explains nuances of The Pledge

Grover Norquist, president of Americans for Tax Reform, appeared on C-Span today and further clarified his position on the current debt negotiations in Washington. While he maintained his adamant “no tax increases” position, he strove to highlight the words of the pledge he asks lawmakers to take and presented the nuances of its second point.


The Pledge reads: I pledge to the taxpayers of the state of _____and to the American people that I will: ONE, oppose any and all efforts to increase the marginal income tax rates for individuals and/or businesses; and TWO, oppose any net reduction or elimination of deductions and credits, unless matched dollar for dollar by further reducing tax rates.


Norquist has come under attack recently for his opposition to ending the ethanol subsidies because he believes it would constitute a tax increase. However, the pledge states that deductions and credits can be removed (presumably in an effort to make the tax code more efficient); but these increases must be offset dollar for dollar by reducing rates. Norquist iterated this position today and said he would not oppose making the code efficient as long as there were cuts. To some degree he has been misrepresented in the media in the past in regards to this position.

Tuesday, July 12, 2011

Are you supporting our government’s spending habit? Are Treasury bonds in your 401k? Are you a form of QE?

Say your 401k is with a large investment management group such as the Vanguard Group or Fidelity Investments. If you put money into one of their money market, bond, balanced, or retirement dated funds, you have probably just bought some part of a Treasury bond. Please take a look at both your current holdings and future contributions; drill down for each investment in the research section at your group’s website to find the percentage of Treasury bonds you are buying and holding. More and more the question has to be raised: is buying these debts patriotic or just enabling the federal spending habit?

Treasury bond prices have fared well of late, mainly because the world views them as safe investments.  However, many economists believe interest rates will eventually have to rise (they cannot go lower). As the prices of bonds fall when rates rise, it may also be a good idea from a return perspective to begin to divest of Treasury bonds even if you disagree with the argument above.