Beyond the Cusp

November 14, 2010

The Federal Reserve’s Great Plan in Everyday Terms

The Federal Reserve is touted as this nebulous body of super bankers who determine interest rates, monetary supplies, and virtually every other action one expects from some nameless, faceless, enigmatic cabal acting as our monetary overlords. Ask most economists to define the powers, manipulations, purview, and machinations of the Federal Reserve and their answer usually takes on terms that make you question what language they are speaking. The latest term of confusion is, “Quantitative Easing”. Many have defined this as a method for monetizing the country’s debt. But what does all this mean and how can we relate it to something more understandable by those of us, like me, who are not econo-verbage literate.

From what I have read, many economists describe Quantitative Easing as paying your credit card bills with a new credit card. Confused yet? I was, as this still left me not really understanding how really bad, evil even, Quantitative Easing was going to be for our economy. As long as you were able to pay the payments of that last credit card, then you would still find your way out of the depths of your debt. I did some more research into Quantitative Easing and think I might be able to give a more descriptive and possibly accurate analogy showing the destructive side of the Federal Reserve plan to “save” the economy.

Here goes. Initially, you buy a house that is near the limit your of ability to meet the mortgage payments. Eventually, other bills make the mortgage payment impossible to meet every month. To cover your shortfall, you take out one credit card after another and use them to pay your mortgage every few months. Initially, things seem stable and you believe this plan is working. Eventually, the credit card bills reach a point where even using them to pay all your mortgage payments, you still are unable to meet the credit card bills. It’s time to take a wild gamble to get out of this predicament, so you refinance your house lumping the balances of all your credit cards into the new mortgage. Now you have an even larger mortgage payment, so once again you use the recently paid off credit cards to pay your mortgage payment, now two out of every three months. Soon, the credit cards are maxed out and you are unable to meet the payments of the mortgage and the credit cards. Once again, you arrange new financing on your house, except this time the loan is for much more than the house is actually worth. This is a desperate bet that you can manage to pay off this new mortgage providing the surrounding economy grew sufficiently, driving up your income. Again, to cover you until the economy heats up, you use these same credit cards to make even more of your mortgage payments. This is where our country now sits as we have just completed what has been called QE2, Quantitative Easing for a second time.

Some economists have predicted another round, QE3, will be necessitated before the economy recovers. Eventually, this making money out of thin air, electronically, will catch up with us and put pressure on prices and/or interest rates to rise unbelievably rapidly, completely out of control. The one obvious outcome will be the use once again of the Misery Index that was invented during the Carter Administration malaise. A few have predicted possible hyperinflation in our near future. The best-known example of hyperinflation occurred during the disastrous and complete meltdown of the economy of Zimbabwe. At its worst, it was a picture of people needing the proverbial wheelbarrow of money to buy a loaf of bread. One truth that depicted exactly how monstrous hyperinflation is, many employers in Zimbabwe began paying their employees daily at noon so they could run out and buy their food for dinner a few hours earlier as prices changed by the hour, sometimes even minutes, Imagine watching the price of the carton of milk and loaf of bread in your hands get more expensive as you wait in line to reach the checkout. This is the reality that the most extreme opinions warn is coming.

In all honesty, I cannot pretend to know what the future holds. I do know that there are a multitude of frightening events of late and the economy does seem to have a volatile uncertainty. Will we see a collapse of our currency as happened in Iceland? For one possibility, research the events before and after October 8, 2008 in Iceland. The Iceland example proves that virtually unimaginable fluctuations can occur and collapse a country’s currency literally overnight. I hope that the American economy never does resemble either the hyperinflation of Zimbabwe or the collapse of the currency as in Iceland. Honestly, I do not trust the Government or the Federal Reserve and actually believe that should they simply not interfere, not hold up failing companies, meddle with the money supply, or any other risky gamble. Just do what is known to work, cut taxes, severely slash government spending, and leave business to private enterprise and Adam Smith’s invisible hand. I often get the feeling that the government and the Federal Reserve playing with the valves of our economy is a big game of blind man’s bluff with them blindfolded swatting at a piñata hoping to get lucky and spill goodies for all around.

Beyond the Cusp

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