Monetization

by Larry Levin

Monetization is defined by Wikipedia as "Monetization is the process of converting or establishing something into legal tender. It usually refers to the printing of banknotes by central banks...Monetization may also refer to exchanging securities for currency..."

"In many countries the government has assigned exclusive power to issue or print its national currency to independently operated central banks. For example, in the USA the independently owned and operated (LMAO - my edit) Federal Reserve banks do this.[1] Such governments thereby disavow the overly convenient 'slippery slope' option of paying their bills by printing new currency. They must instead pay with currency already in circulation, or else finance deficits by issuing new bonds, and selling them to the public or to their central bank so as to acquire the necessary money. For the bonds to end up in the central bank it must conduct an open market purchase. This action increases the monetary base through the money creation process. This process of financing government spending is called monetizing the debt.[2] Monetizing debt is thus a two step process where the government issues debt to finance its spending and the central bank purchases the debt from the public. The public is left with an increased supply of base money."

With today's FOMC announcement, the Fed went "all in." Although the Fed is already monetizing the Treasuries debt via POMO operations, it will begin buying even more. In addition to the POMO purchases, the Fed will start buying an additional $75,000,000,000.00 per MONTH through Q2 of 2011.

The FOMC statement in part read (notice the INTENT to spike inflation at the beginning)..."To promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to expand its holdings of securities. The Committee will maintain its existing policy of reinvesting principal payments from its securities holdings. In addition, the Committee intends to purchase a further $600 billion of longer-term Treasury securities by the end of the second quarter of 2011, a pace of about $75 billion per month. The Committee will regularly review the pace of its securities purchases and the overall size of the asset-purchase program in light of incoming information and will adjust the program as needed to best foster maximum employment and price stability."

Mohamed El-Erian of PIMCO doesn't think this will work. In a note to clients he said..."Given the high market expectations, the US Federal Reserve had no choice but to announce a second tranche of quantitative easing, nicknamed QE2. (My note: Notice that PIMCO agrees with what I have said for YEARS; When the banksters say "jump," the Fed answers with "how high?") But the measure is an inevitably blunt instrument for the difficult task of restoring growth and generating jobs. The benefits accruing to America come with burdens for other countries, and both could soon be swamped by the unintended consequences of this unavoidably imperfect policy approach.

...By signalling its intention to purchase another $600bn of longer-term Treasury securities by the end of June 2011, the Fed hopes its injections of cash will lower interest rates, bolster asset prices, increase wealth and encourage households and companies to spend and hire. Moreover, by noting the possibility of doing more if the data disappoint, it is also hoping that markets could price in the institution’s future asset purchases, turbo-charging the direct policy impact before those purchases have even been specified.

...But liquidity injections and financial engineering are insufficient to deal with the challenges that the US faces. Without meaningful structural reforms, part of the Fed’s liquidity injection will leak right out of the US and result in yet another surge of capital flows to other countries.

...The rest of the world does not need this extra liquidity, and this is where the second problem emerges. Several emerging economies, such as Brazil and China, are already close to overheating; and the eurozone and Japan can ill afford further appreciation in their currencies.

...The unfortunate conclusion is that QE2 will be of limited success in sustaining high growth and job creation in the US, and will complicate life for many other countries. With domestic outcomes again falling short of policy expectations, it is just a matter of time until the Fed will be expected to do even more. (MORE?!) And this means Wednesday’s QE2 announcement is unlikely to be the end of unusual Fed policy activism.

So PIMCO already believes there will be a QE3. I guess all the petulant banksters have to do is stomp their feet and demand more QE and the Fed will "have no choice" but to give in.

In the meantime, the Fed and Treasury will insult other countries for debasing their currencies while we do it to the tenth power - while pretending we do nothing at all. The USA will ridicule and lecture countries like Greece for massive debt levels when we make its spending look like chump change. And Americans will elect a new group of marionette's for the Fraud Street puppeteers, sadly expecting something to change, while nothing changes at all.

I hope I am wrong but when thinking of the ridiculous moves of the Fed, and the new Congress, I am reminded of The Who's excellent song "Won't Get Fooled Again" where the lads sing "...meet the new boss, same as the old boss..."

Until monetarist economics are dead and buried, with each new Chairman you should sing "...meet the new boss, same as the old boss..."

Until Keynesian economics are dead and buried, with each new Congress you should sing "...meet the new boss, same as the old boss..."

Trade Date: 11/3/10
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