"Unlimited QE3" Quick Analysis: Federal Reserve Attacks US Dollar, Risks Currency Warfare
by Daniel R Amerman, CFA
The Federal Reserve has just announced that it would launch the so-called "QE3", or "Quantitative Easing Three" program. Key components are:
1) The creation of $40 billion a month out of thin air to purchase agency mortgage-backed securities at artificially low interest rates;
2) The continuation of Twist 2, and the shifting of Federal Reserve holdings of US Treasury Bonds into longer-term bonds;
3) Combined purchases of long-term securities between QE3 & Twist 2 of approximately $85 billion per month through the end of the year;
4) Quantitative easing without any pre-defined limit, meaning an open-ended commitment to keep purchasing securities at whatever level is judged necessary until the labor market improves "substantially";
5) The potential purchase of additional assets and the deployment of other policy tools as needed;
6) An extension of the 0.0% to 0.25% target range for the Fed Funds rate until at least mid 2015.
ANALYSIS: No Sterilization Means Radically Increased Inflationary Danger
The most important part of the Fed statement was the word that wasn't mentioned: "sterilization". This means that there was no promise to "contain" the newly created money, as was the case with QE1 and previous mortgage security purchases, but instead it appears that the newly created money will be going directly into the economy - and on a potentially unlimited basis.
The promise to create money out of thin air and inject it into the economy at a rate of $40 billion a month on an unlimited basis is the single most inflationary act the Federal Reserve has taken to date. While the dollar volume on a monthly basis is somewhat less than prior "easings" (aka monetary creations), the non-sterilized and potentially multiyear nature of QE3 takes it to an entirely different level than QE1, QE2 or either of the Twists.
For a background reading on how sterilization works and why central banks usually sterilize, there are several articles in my "Money Creation Primer", linked below:
ANALYSIS: An Attack On Unemployment Through An Attack On The Dollar
The Federal Reserve is indeed using QE3 to attack the problem of unemployment - but not through the method stated.
The cover story is that QE3 will be used to increase the money available for lending and to lower interest rates. It is a credit to Mr. Bernanke that he was able to read this statement with a straight face, for the assertion that the economy is being held down by too high of interest rates and tight money is ludicrous. Interest rates are already at historic lows, and banks are awash in available cash. Moreover, QE3 is likely to have very little effect when it comes to expanding corporate lending, just as QE2 had very little effect - because that was never the intended route to rebooting employment in the United States.
As described in detail in my article "Bullets In The Back: How Boomers & Retirees Will Become Bailout, Stimulus & Currency War Casualties" (linked below) the United States has a structural problem with unemployment that is essentially unsolvable so long as the dollar remains high in value relative to other global currencies. This problem was exacerbated by the rise in the US dollar caused by the Euro crisis - and it is no coincidence that the unemployment crisis in the United States is now getting rapidly worse even as the dollar soared this past spring and summer.
The Federal Reserve is, of course, well aware that the unemployment situation is far, far worse than what is being captured in the official headline unemployment rate of 8.1%. The government knows full well that the true unemployment rate, once workforce participation rate manipulations are netted out, is closer to 19% - and getting worse, as explored in detail in my article linked below, "Making 9 Million Jobless "Vanish": How The Government Manipulates Unemployment Statistics".
This building crisis of a strengthening dollar and rising unemployment called for emergency action, and that is exactly what Bernanke is doing. He is effectively calling in a B-52 strike on the US dollar, monetizing for the world to see, and pledging to monetize for as long as it takes - until the US dollar is driven down to a level where American workers can once again be globally competitive.
If the rest of the world sits back and lets the United States drive down the value of the dollar, then US employment is indeed likely to rise - at the cost of falling employment elsewhere. But if the rest of the world is not willing to sit back and watch jobs flow to the US, then there is likelihood of counterstrikes, and even the danger of all-out currency warfare.
ANALYSIS: Increased Financial Repression, Increased Hidden Taxes & A Devastating Blow To Retirement Investors
Consider two promises the Federal Reserve just made:
1) That it will create money out of thin air on a massive scale for as long as it takes until substantial improvements in the labor market occur; and
2) That near zero short term interest rates will continue until at least mid-2015, even as interventions in the long term bond market will also hold long term interest rates down.
In other words, inflation goes up (whether officially captured in inflation statistics or not), and interest rates are forced even lower, for a longer period of time. There is a term economists use for this process: "Financial Repression".
As I explain in detail in my article, "Financial Repression: A Sheep Shearing Instruction Manual" (linked below), Financial Repression is a strategy deployed by governments with large debts which involves deliberately creating rates of inflation that are higher than interest rates, and in the process taking wealth on a wholesale basis from individual savers across the nation. It has been used by many nations over the decades - because it works. And the Federal Reserve has just kicked Financial Repression into overdrive with QE3.
Another way of understanding the benefit to the government is that the higher the real inflation rate, and the lower the interest rates in a nation, then the higher the hidden tax on savers. As developed in step by step detail in my article, "Hiding A $500 Billion Tax On Savings: How The Government Deceives Millions" (linked below), the government already takes half a trillion dollars a year from the population in a hidden tax. This is a highly uneven and unfair tax, that primarily targets retirement investors and other older citizens who hold the majority of the nation's interest-bearing savings accounts and other fixed income investments.
What the Federal Reserve just did was impose yet another massive (albeit hidden) tax increase onto the savers of America, with most of the pain being reserved for the Boomers and retirees.
Indeed, what currency warfare and the hidden taxes imposed by inflation have in common is who pays the price. It is older Americans in general, and retirement investors in particular, that are the true victims of QE3.
The many interrelated ways in which QE3 will serve the interests of the government - while impoverishing many savers - are summarized in my article linked below, "Five Reasons Why The Government Is Destroying The Dollar".
The Fed & ECB Follow The Workshop Script
This final section is for those who attended my workshops earlier this year. The European Central Bank and the Federal Reserve are following almost to the letter the "script" I explained for how a Euro-led global economic meltdown could be avoided through instituting the combination of global quantitative easing and global financial repression.
The European Central Bank has agreed to purchase the bonds of member states and lower interest rates, as we discussed (slides are from the presentation).
This unshackling of the ECB and giving it more Federal Reserve-like powers has at least temporarily alleviated the Euro crisis, as we discussed.
And in a desperate attempt to reboot US employment, the Federal Reserve began a massive assault on the dollar almost the moment that the Euro situation somewhat stabilized. As we discussed.
In this case it was the German court's clearance of the expansion of power for the European Central Bank that was the last step needed for at least interim stabilization, and the Federal Reserve savagely attacked the US dollar within one day.
Rampant political risk remains in the system, and the continuation of events following my global financial repression "script" can't be assured. That said, there has been a narrowing of possible alternative futures now that the politically difficult (and therefore uncertain) key changes have indeed occurred in Europe and the US as anticipated, and the risks for retirement account and precious metals investors have substantively increased, even as the importance of the new alignment and political risk mitigation strategies have increased (the asset of choice for the Fed to purchase is particularly worth noting with regard to our tiered alignment strategy discussions).