The Fed Continues to Operate Blindly
For those who'd been optimistic that Federal Reserve officials might eventually wake up to the true nature of inflation, last week's FOMC meeting likely dashed all hope. The Fed continues to reveal a shocking blindness about inflation's actual causes, and instead comforts itself with the false notion that subpar economic growth is inflation's cure.
The important part of last week's FOMC statement went like this:
"With substantial resource slack likely to continue to dampen cost pressures and with longer-term inflation expectations stable, the Committee expects that inflation will remain subdued for some time."
What Fed officials still don't see is that unemployment and "slack" have nothing to do with inflation. Zimbabwe has enormous amounts of slack, but thanks to a currency that's been in freefall for years amid a collapsing economy, inflation is rampant there. That is so because inflation is solely a monetary phenomenon caused by a decline in the value of a currency. Economic growth has nothing to do with it, though it should be said that economic weakness has historically correlated with currency weakness, and vice versa.
Simply put, dollar weakness IS inflation, and with the dollar at historic laws, we ARE inflating.
But even if economic growth were in fact the cause of inflation, the existence of it or lack thereof is not relevant at a time when the world economy is increasingly interconnected. If labor shortages reveal themselves stateside in such a way that Fed officials believe them to be inflationary, U.S. firms can do as they've always done and access the world's abundant supply of labor to make up for any worker shortfalls in these fifty states.
When it comes to "slack" or capacity utilization, much the same applies. If there ever comes a time that U.S. factories are completely tapped out, U.S. companies have been and will continue to access the world's supply of manufacturing capacity to create the goods we buy. To offer up but one easy example, retailer Wal-Mart sources a great deal of the goods it sells from producers outside the United States, and it's far from alone in that regard. Not only does economic slack have absolutely nothing to do with inflation, it has never in modern times been a limiting factor when it comes to goods production.
And while it can't be stressed enough that questions of the dollar's value have always been the preserve of the U.S. Treasury, the combination of a clueless Fed and an Obama Treasury that clearly has no trouble with the dollar's debasement continue to weigh on the greenback's value as evidenced by the gold price. Due to signaling from U.S. monetary authorities that the dollar's decline doesn't concern them, "Benign" dollar neglect is sowing the seeds of yet another financial crisis.
Sadly, the story gets worse. Further on in the aforementioned FOMC statement, our alleged monetary "wise men" made plain that their program of purchasing $1.25 trillion of mortgage-backed securities will continue. This is another backdoor attempt at bailing out the banks based on the belief that lower mortgage rates will stimulate home purchases.
The above might help overstretched homeowners exit the market in concert with payback of loans, but it has nothing to do with economic growth. Indeed, it can't be stressed enough that the purchase of a house is mere consumption that drives money into the ground.
Conversely, true economic growth occurs when those with available capital put it in the bank or invest it so that entrepreneurs and existing businesses can access it. In short, the Fed's housing "stimulus" plan is anti-entrepreneur, and perhaps worse, it locks individuals into certain regions of the country at a time when the economy desperately needs labor mobility, and saved capital to fund true innovation.
Just yesterday, an article in the Wall Street Journal noted that sources of small-business funding are drying up. This shouldn't surprise us given Fed efforts to drive precious capital into hard assets.
Of course part of the Fed's reasoning in buying up the securities is that money growth equals economic growth. By that logic North Korea is doing us a favor through its counterfeiting of dollars that look real.
What the eerily obtuse Fed doesn't see is that money is not wealth; rather money is merely a measuring stick that allows us to rationally place value on goods and investments. It is only when goods and investments can be reasonably priced in terms of money that markets know how to properly allocate what is limited capital. A floating, weak dollar makes this process very difficult.
Not only do the Fed's actions needlessly distort money values, they're likely counterproductive. Indeed, the problem with governmental attempts to manipulate the cost of anything downward is that shortages frequently reveal themselves. In that case, the "seen" is the Fed driving down market rates of interest to artificial levels, but the "unseen" is how this impacts the average individual in possession of capital, but who is unwilling to put it in the bank so that near zero interest can be paid on it. Small businesses and their funding struggles were mentioned earlier, and it's fair to presume that the Fed's activities have factored into what remains a tough market for credit.
Blind to how its actions are distorting the market for capital, Fed Governor Kevin Warsh trotted out a platitude-filled, and self-serving op-ed in the Wall Street Journal last week suggesting that today's problems are "exceptionally well suited to the Federal Reserve's comparative advantages of deliberation, dispassion, and a determination to make judgments based on the long-term interests of the U.S. economy."
Only a Fed official could ignore the Treasury and Fed's massive role in creating the crisis, while ascribing to it the "judgment" to fix what it broke. Rather than foist more of its economic illogic on us, Warsh would be wise to heed his own counsel stressed earlier in the puff piece whereby he correctly stated that "we should maintain considerable humility about optimal policy."
Truer words have rarely been written. What the economy needs right now isn't artificial rates or money creation or economic weakness to keep inflation in check. Instead, the economy needs one thing to heal, and that's a stable dollar. And as long as Treasury and Fed officials don't understand this, they'll be operating blindly to the very real inflation that is crushing us, with economic growth of the ‘80s and '90s variety remaining a distant object.