Go Forth and Speculate!
Although it was widely expected, it still is slightly disquieting to know that 'QE3' has just become 'QE4', with the total size of outright asset purchases per month henceforth running at a nearly 50% higher rate than 'QE2' had. Without a time limit to boot, although the FOMC did provide a sliver of 'guidance' as to what might provoke a tighter stance of policy. Naturally it is not yet known what other exigencies might present themselves should those targets ever be reached, so we should probably take these with a grain of salt.
Anyway, it was a loud and clear admonition to speculators to please stop ignoring all this free money they're showering us with and go out and buy risk already. After all, the announcement of 'QE3' turned out to be a damp squib: the stock and commodity markets topped out right with it. Readers may recall that we were scratching our head regarding the odd timing of that announcement, as it appeared to us that the planners were taking quite a risk (from their own point of view that is) by announcing 'QE3' with risk assets already overbought. Judging from the market reaction to the announcement of 'QE4' on Wednesday, the effect of the money printing trick is getting ever more muted. This has a number of potential implications, such as the possibility – regarded hitherto as unlikely – that the economy is in such bad shape that not even massive additions to free liquidity can lift the stock market anymore (judgment on that has to be reserved for now).
Given that 'Operation Twist' is about to run out, it was already speculated (or let us better say 'pre-announced') in a Hilsenmegaphone shout in the WSJ that more money printing was definitely going to come down the pike, with only the precise timing (December or January meeting?) still slightly open to question. So the market could only have been surprised if they had done nothing.
As things stand, we did get a substantially reworded FOMC statement this time, as opposed to the collection of carbon copies that was circulated at almost every other occasion this year. In the main the rewording concerns technicalities – on the scope of the asset purchases and the 'economic goals' (such as an unemployment rate of 6.5%) that have to be achieved before a policy change will be contemplated.
The WSJ provides the always useful 'FOMC statement tracker' for interested Kremlinologists. We take a look at one of the more interesting quotes from it below (it is mainly 'interesting' in the Chinese curse sense as it were).
“Inflation has been running somewhat below the Committee’s longer-run objective, apart from temporary variations that largely reflect fluctuations in energy prices. Longer-term inflation expectations have remained stable.”
Since we tend to use a different definition of what constitutes 'inflation' than the Fed, we must point out here that what this paragraph refers to is the rate of change of CPI (or some other 'inflation measure' like PCE), which as it were is essentially a complete fantasy number. We hold that inflation is the increase in the supply of money, and rising prices in the sense of a 'general rise in the level of consumer prices' (better: a general loss in money's purchasing power) are just one of its many possible effects, and not necessarily the most pernicious one, although it is bad enough.
So, 'inflation' has been 'running below the Committee’s longer-run objective'? Say what? We forget: 'price stability' as defined by modern central banks is a loss of purchasing power of 2% per year. This is allegedly beneficial, which should immediately raise the question: if that is so, then why are we in the soup in the first place?
The sentence deserves some more scrutiny as it were. We remarked that 'CPI is a fantasy number', but that is not only so because the statistical methods for its calculation have become increasingly questionable since the 1990's – for instance, the statisticians purport to be able to 'value' the amount of 'pleasure' or 'quality increases' conveyed by better goods via a method referred to as 'hedonic indexing'. Moreover they regularly reduce the weight of items in the basket of goods they use for the calculation if they rise in price, on the theory that 'people will buy less of them' (true, and that is one of the many ways in which rising prices lower living standards. This facet has simply been removed from consideration by this methodological expedient).
These methods obviously make it appear as though the purchasing power of money were better preserved than it actually is. Not only that, they then distort all other calculations that are based on the same 'price indexing' methods to a sometimes truly staggering extent (this goes especially for the alleged 'real value' of spending on information technology as reflected in GDP: the numbers are so out of line with the nominal numbers they are based on that nearly 40% of reported GDP 'growth' consists actually of – nothing). The main aim of adopting these calculation methods seems to be to slap lipstick on the pig and make the performance of our vaunted politicians and policymakers look better than it is.
However, the problem runs actually deeper.
The Most Useless Profession in the World
Central bankers are powerful people, and yet, theirs is one of the most senseless and useless professions in the world. If it were only useless, one could perhaps regard them as a fairly affordable write-off based on their salaries, but unfortunately they are doing untold harm to boot.
Central banking is literally an impossible profession – this is to say, it attempts to do what cannot be done, namely to 'stabilize' what it makes no sense to stabilize (prices) by trying to measure what cannot be measured (the 'general level' of prices). It is exactly as impossible a job as running the Soviet GOSPLAN once was.
Even though one may concede that there exist central bankers that are more 'conservative', 'responsible' or 'capable' than others, neither good intentions, nor intelligence, nor a good education can change the basic fact that what they are officially charged with doing simply cannot be done.
Like every central economic planning endeavor, it is a complete waste of time, effort and talent that cannot produce anything but economic harm. To be sure, it is not the only profession in the world that might strike one as useless (there are a great many bureaucrats and politicians the world could do without), but among those it is surely one of the most detrimental, ultimately responsible for making the lives of millions miserable. Anyone who is nominated to a central banking post is basically told: 'go forth and destroy the economy while making and talking as if you actually knew what you are doing'.
The reality is that it is not possible for a committee of 'wise men' to know what the proper interest rate should be or how much money the economy needs. Moreover, the idea that prices should be stabilized is utterly misguided in every possible respect. First of all, it is not even possible to measure the 'general level of prices'. It is not possible because there exists no fixed yardstick with which such a measurement could be taken. Money itself is subject to the laws of supply and demand as much as any other good and so provides no constant (this is by the way true of any form of money, not only of fiat money). Furthermore, it is illogical to add up the prices of disparate goods, make an average out of that and assert that the resulting index number has meaning. As Murray Rothbard writes (in Man, Economy and State, p. 845), after presenting an example of changing exchange relations between an array of disparate goods over a certain period of time (consisting of hats, TV sets, legal services and sugar):
“[...] we can describe (if we know the figures) what happened to each individual price in the market array. But how much of the price rise of the hat was due to a rise in the demand for hats and how much to a fall in the demand for money? There is no way of answering such a question.
We do not even know for certain whether the PPM [purchasing power of money, ed.] has risen or declined. All we do know is that the purchasing power of money has fallen in terms of sugar, hats, and legal services, and risen in terms of TV sets. Even if all the prices in the array had risen we would not know by how much the PPM had fallen, and we would not know how much of the change was due to an increase in the demand for money and how much to changes in stocks. If the supply of money changed during this interval, we would not know how much of the change was due to the increased supply and how much to the other determinants.
Changes are taking place all the time in each of these determinants. In the real world of human action, there is no one determinant that can be used as a fixed benchmark; the whole situation is changing in response to changes in stocks of resources and products and to the changes in the valuations of all the individuals on the market. In fact, one lesson above all should be kept in mind when considering the claims of the various groups of mathematical economists: in human action there are no quantitative constants. As a necessary corollary, all praxeological – economic laws are qualitative, not quantitative.”
(emphasis in original)
So this is why what is allegedly the main job of central bankers is literally impossible.
Stabilization Equals Inflation
Now let us assume for argument's sake that it may be possible to calculate a reasonable approximation of this mythical 'general price level'. Would it make sense to 'stabilize' it at some arbitrary percentage of annual purchasing power loss as the 'committee' wants to do?
Once again, the emphatic answer must be 'no'. Just as we have to thank Irving 'the markets have reached a permanent plateau' Fisher for the index numbers that are today the basis for government meddling in the economy, so we have to thank him for the equally misguided 'equation of exchange' (MV=PT, in its simplest form – there exist a few more involved versions that are equally meaningless), a tautology that essentially tells us nothing more than the fact that total money spent in the economy equals total money received in the economy. As Rothbard notes regarding Fisher's equation (MES, p. 835-836):
“[...] it should be clear that things cannot determine prices. Things, whether pieces of money or pieces of sugar or pieces of anything else, can never act; they cannot set prices or supply and demand schedules. All this can be done only by human action: only individual actors can decide whether or not to buy; only their value scales determine prices. It is this profound mistake that lies at the root of the fallacies of the Fisher equation of exchange: human action is abstracted out of the picture, and things are assumed to be in control of economic life.
Thus, either the equation of exchange is a trivial truism — in which case, it is no better than a million other such truistic equations, and has no place in science, which rests on simplicity and economy of methods — or else it is supposed to convey some important truths about economics and the determination of prices. In that case, it makes the profound error of substituting for correct logical analysis of causes based on human action, misleading assumptions based on action by things. At best, the Fisher equation is superfluous and trivial; at worst, it is wrong and misleading, although Fisher himself believed that it conveyed important causal truths.
Thus, Fisher’s equation of exchange is pernicious even for the individual transaction. How much more so when he extends it to the “economy as a whole”!”
(emphasis in original)
From a practical point of view the problem is that the equation makes it appear as though money were neutral – but money is anything but 'neutral'. When the central bank or the commercial banks it backstops introduce new money into the economy, it tends to enter the economy at discrete points. Therefore prices are changing relative to each other. This ultimately leads to malinvestment, i.e., misallocations of capital; every addition of fiduciary media to the loan market lowers the market interest rate below the natural level that is determined by society-wide time preferences. An economic boom is the result, as projects previously judged unprofitable suddenly appear to make economic sense. The boom always looks harmless and even desirable to most people while it is underway, even though it consumes scarce capital. The mirage of illusory accounting profits is accepted at face value by most, while some may think they have no choice but to 'get up and dance' as the former Citigroup CEO Chuck Prince put it, in the hope they can step off the train before it inevitably becomes a train wreck.
If 'price stability' as measured by CPI is the sole or main criterion by which central bankers decide what level of interest rate is appropriate, then there can be concrete historical situations in which their 'price stability' policy actually masks an enormous amount of inflation. This is especially so when economic productivity has been rising strongly for some time, which would normally tend to lower prices (more goods are produced with the same inputs). If then prices are not allowed to fall, but are 'stabilized' instead, this can only be achieved by large increases in the supply of money and credit.
This is precisely what has happened in the US economy (and elsewhere for that matter) ever since money has become a fully centrally planned, completely un-anchored and 'flexible' fiat currency (apart from a very brief period in the early 1980s). The process has accelerated since the stock market mania ended in the year 2000 and continues to do so:
The broad US money supply TMS-2 since 1960 (chart via Michael Pollaro). Constant monetary inflation has accelerated ever further – click for better resolution.
Even if one knew nothing of the foregoing, then anyone looking at this chart would have to ask: if it is true, as the Fed avers, that the ills of the economy can be 'fixed' by printing even more money, then how is it possible that we have not arrived in the Land of Cockaigne yet? When exactly will it be enough?
The reality is of course that more money printing will not strengthen the economy; it will achieve the exact opposite. So unless the views outlined by the 'committee' change rather profoundly (for that one would presumably have to replace all the current FOMC members with clones of Jeffrey Lacker, the sole dissenter), it will never be enough.
Chart via Michael Pollaro
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