Occasionally I get an email from a reader that makes me pause and think. This is one of those times.
Reader Janet Dight writes ...
Hello MishMonopoly Money vs. Bernanke Money
Ben BernankeMonopoly Official Rules "The bank never goes broke. If the bank runs out of money, the banker may issue as much as may be needed by writing on any ordinary paper."
So what's the difference between "Monopoly Money" and "Bernanke Money"?
The difference is theory vs. practice.
In Monopoly, there is no difference between theory and practice. The rules are the rules and they will be honored and enforced by the players in the game. Money is printed and handed out without any regard as to whether it might be paid back. There is no such thing as excess reserves. Players are always willing to put money to use. If players don't put money to use, they will be bled to death by other players.
In the Bernanke's world, the Fed can print as much or as little as it wants. What the Fed does print is a loan. That money must be paid back. Collateral (even if speculative) is required and discounts are applied. In Bernanke's world, money is parked as excess reserves at the Fed if banks do not find good credit risks.
At times, it seems there is little difference between "Monopoly Money" and "Bernanke Money". It all depends on the willingness of banks to lend and consumers and businesses to borrow.
However, even when it seems there is little difference, there is a major difference between a bank giving money to players to spend and loans that must be paid back.
Constraints are Key
Flashback November 23, 2010: Austrian economist Robert Murphy predicts "high inflation" and and writes a post Has Mish Deflated the "Inflationistas"?
My response which in retrospect has clearly carried the day was Failure to Consider Constraints - My Response to "Has Mish Deflated the Inflationistas?"
I invite you to read my detailed response to someone who was clearly wrong but here is the key snip.
Monetary Printing vs. Debt Deflation
There is $35 trillion in credit on the balance sheets of banks, little of it marked to market. Yet, printing $600 Billion is supposedly going to cause serious inflation.
Given the Money Multiplier Theory is totally bogus, The odds sure don't look very good to me
Practical Constraint Recap
- Ability of consumers/corporations to take on more debt
- Willingness of consumers/corporations to take on more debt
- Willingness of banks/credit companies to extend more credit
- Ability of banks/credit companies to extend more credit
- Unwillingness of the federal reserve to print themselves out of power
- Actions of other Central Banks
- Actions of Congress
- Global wage arbitrage
- Fed cannot create jobs
- Fed cannot give money away
- Fed is beholden to banks
In theory the Fed can cause inflation rather easily. In practice the Fed has to deal with many practical constraints.
Theory and Practice
Murphy claims "Bernanke has the power to raise prices if he so chooses". Can he? With whose help? At cost constraints Bernanke can ignore?
In theory, the Fed can cause massive inflation at will. In practice, they can't. As Yogi Berra once quipped "In theory there is no difference between theory and practice. In practice, there is."
You can lead a horse to money, you can't make him eat it. That's the very important difference. It's a question of attitudes.
The Fed can certainly encourage inflation by offering money at seemingly attractive rates, but it cannot force the issue.
Right now, neither consumers nor businesses want the risk. They are too loaded up with debt already, no matter how attractive the Fed wants debt to appear. It's like trying to give a kid one piece of cake too many. At some point, extra frosting makes the cake look less attractive, not more. At that point the kid will not take another bite.
That is the point we are at now. The Fed is hoping Congress will eat more cake. It's up to Congress, not the Fed, and I doubt Congress want to eat as much cake as the Fed needs.
In case no one is keeping track, Bernanke has now fired every bullet from his 2002 “helicopter drop” speech Deflation: Making Sure "It" Doesn't Happen Here.
Here is Bernanke’s roadmap, and a “point-by-point” list from that speech.
1. Reduce nominal interest rate to zero. Check. That didn’t work...
2. Increase the number of dollars in circulation, or credibly threaten to do so. Check. That didn’t work...
3. Expand the scale of asset purchases or, possibly, expand the menu of assets it buys. Check & check. That didn’t work...
4. Make low-interest-rate loans to banks. Check. That didn’t work...
5. Cooperate with fiscal authorities to inject more money. Check. That didn’t work...
6. Lower rates further out along the Treasury term structure. Check. That didn’t work...
7. Commit to holding the overnight rate at zero for some specified period. Check. That didn’t work...
8. Begin announcing explicit ceilings for yields on longer-maturity Treasury debt (bonds maturing within the next two years); enforce interest-rate ceilings by committing to make unlimited purchases of securities at prices consistent with the targeted yields. Check, and check. That didn’t work...
9. If that proves insufficient, cap yields of Treasury securities at still longer maturities, say three to six years. Check (they’re buying out to 7 years right now.) That didn’t work...
10. Use its existing authority to operate in the markets for agency debt. Check (in fact, they “own” the agency debt market!) That didn’t work...
11. Influence yields on privately issued securities. (Note: the Fed used to be restricted in doing that, but not anymore.) Check. That didn’t work...
12. Offer fixed-term loans to banks at low or zero interest, with a wide range of private assets deemed eligible as collateral (…Well, I’m still waiting for them to accept bellybutton lint & Beanie Babies, but I’m sure my patience will be rewarded. Besides their “mark-to-maturity” offers will be more than enticing!) Anyway… Check. That didn’t work...
13. Buy foreign government debt (and although Ben didn’t specifically mention it, let’s not forget those dollar swaps with foreign nations.) Check. That didn’t work...
I wrote about Bernanke's Deflation Prevention Scorecard in April 2009.
Now, Bernanke is squealing like a stuck pig, begging Congress and China to help him produce price inflation in the US while still chastising Congress about a "fiscal cliff".
For details on the upcoming fiscal cliff please see Key Words of the Day: "Nothing", "Fiscal Cliff", "Later"; Bernanke Speech Template; U.S. Fiscal Cliff and What to Do About It
Regarding points 8 and 9 above: the Fed did purchase treasuries and agencies, but admittedly without an explicit ceiling.
Question of Timeframe
The point of this post is not to lay into Robert Murphy or any other misguided Austrian economists. I had forgotten about the above debate and found it searching my blog for "constraints".
Also bear in mind that I happen to agree with the Austrian economists on most points of view except timeframe.
Their timeframe is way off because ...
- They view inflation as an exercise in printing, completely ignoring the role of credit
- They ignore the changing attitudes towards lending by banks
- They ignore demographics and the changing attitudes of aging boomers headed towards retirement
- They ignore constraints on the Fed and constraints on banks
- They ignore the destruction of credit on the balance sheets of consumers and its effects on prices
Record Low Treasury Yields a Sign of What?
If massive inflation was coming 10-year treasury rates would not be yielding a record low 1.60% and consumers would certainly not be deleveraging!
Might massive inflation be coming down the road?
Certainly, but it will take a change in attitude by consumers and banks or massively reckless policies by Congress.
Interestingly, Congressional policies are indeed "massively reckless" just not reckless enough yet. The emphasis is on "yet". I will not be a deflationista forever, but I remain one for now.
I remain extremely amused by countless emails from people who tell me about how wrong I am going to be.
They all miss my ability and willingness to change my mind! At some point I am going to change my tune. History suggests I will be far too early rather than late. Time will tell.
For now (and as I have been saying for as long as I have been blogging), hyperinflation or even "big inflation" is nonsense.
Constraints and Attitudes are Key
For now, attitudes, deleveraging, demographics, and the destruction of the value of credit on the balance sheets of banks absolutely and without a doubt overwhelm Bernanke's ability to do anything meaningful about it.
Mike "Mish" Shedlock