Janet Yellen’s Bad Idea

Yesterday something quite remarkable happened.  House Republicans and President Obama talked.  We don’t know what it was they talked about.  But, perhaps, it had something to do with raising the debt ceiling.

Wall Street was elated.  The DOW and the S&P 500 both jumped 2.18 percent.  What’s more, the NASDAQ ran up 2.26 percent.  Nonetheless, the day concluded without a deal.

There’s less than one week until the October 17 deadline to raise the debt ceiling.  What a delight it is to witness the final days before the greatest sovereign debt crackup the world’s ever known.  Not since Nero clipped coins in 64 A.D. and fiddled as Rome burned has there been such an intolerable collection of dingleberries in imperial office.

Everyone is counting on an 11th hour agreement to raise the debt ceiling…especially Wall Street.  Even so, we watch with wide eyes and a gawping jaw as the countdown draws near.  What if no grand bargain is reached and Treasury debt payments go into arrears?

Will the world financial system freeze up?  Will debt markets frost over like the Alaskan tundra?

More Unpredictable than Lehman

No one really knows quite what would happen if the U.S. were to default on its debt obligations.  But Mohamed El-Erian, CEO and money manager at PIMCO, is more qualified than most to offer some idea…

“What frightens us the most,” said El-Erain to Bloomberg on Tuesday, “is what happens to the plumbing system of the global-financial system.  You will have cascading failure, multiple defaults, and Treasuries that act as collateral would be very difficult to exchange and people will simply step back.  It will be like Lehman, but more unpredictable.”

If you recall, when Lehman Brothers vanished from the face of the earth a little over five years ago, black swans relentlessly descended upon the LIBOR like common ravens upon fresh Southern California road kill.  Spread movements that were statistically not possible in a million years, somehow, happened every day.  Money market shares of the Reserve Primary Fund did the impossible…they broke the buck – falling to $0.97 cents a share.

We can only imagine the utter madness that would occur if the U.S. were to default on its debt.  The damage to capital markets would be explosive.  The dollar would lose its world reserve currency status overnight.

Suddenly, the great big advantage the U.S. has had over all other countries would vanish.  The Treasury would no longer be able to finance its debt with money created by the Federal Reserve.  Federal entitlement programs would come up short and the many dependents would be hung out to dry.

Janet Yellen’s Bad Idea

But if that isn’t frightening enough, this week brought forth word that Federal Reserve Vice Chairwoman Janet Yellen will likely replace Ben Bernanke as top Fed official in January.  On Wednesday President Obama named Yellen as his nominee to be the next chair of the Federal Reserve.  If you didn’t know, Yellen has held various positions with the Fed over the last 20 years.

We don’t really know much about what she’s done there.  But, at a minimum, she’s guilty by association of participating in an era of unprecedented Fed activism.  We do know, however, that she thinks monetary policy is a moral issue.

In fact, back in 1995, at a Federal Open Market Committee meeting, Yellen argued in favor of allowing inflation to exceed inflation targets for moral reasons…

“Ms. Yellen told the committee that ‘the moral’ of all this is ‘that the Fed should pursue multiple goals,’” recounts the Economic Policy Journal.  “She said that ‘when the goals conflict and it comes to calling for tough trade-offs, to me, a wise and humane policy is occasionally to let inflation rise even when inflation is running above target.’”

Remember, inflation acts as a hidden tax on savers.  It devalues the purchasing power of their accounts.  Ask any retiree living on a fixed income or a hardworking prudent individual skimping to squirrel away some nuts for retirement.  Policies of inflation are not moral and humane…they are deceptive and theft.

Yet, in the erudite world of monetary policy makers, inflation is the ultimate goal.  For inflation is the solution to deflation.  Moreover, in a world where debts are levered up to the moon, deflation must be avoided at all costs.  Any vestiges of hope that sanity would prevail at the Federal Reserve upon Bernanke’s exit were dashed this week with the nomination of Yellen.

“While we have made progress, we have farther to go,” Yellen said following her nomination.  “The mandate of the Federal Reserve is to serve all the American people, and too many Americans still can’t find a job and worry how they will pay their bills and provide for their families. The Federal Reserve can help, if it does its job effectively.”

You see, Yellen believes more Federal Reserve notes somehow results in more jobs.  Unfortunately, this bad idea will guide every monetary policy decision she makes.  The consequences will be humbling.


MN Gordon
for Economic Prism

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