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Milton J. Madison - An American Refugee Now Living in China, Where Liberty is Ascending

Federalism, Free Markets and the Liberty To Let One's Mind Wander. I Am Very Worried About the Fate of Liberty in the USA, Where Government is Taking people's Lives ____________________________________________________________________________________________ "Extremism in defense of liberty is no vice. Tolerance in the face of tyranny is no virtue." -Barry Goldwater-

Monday, January 28, 2013

Why Deleveraging Still Rules Markets in 2013 - Bloomberg

No one is even considering this given how ebullient the markets are these days. Incomes for Americans will not grow much this year as taxes will take a bigger bite and income shifting into lower tax rates of 2012 will also take its toll. So growth will probably not be as high as folks are considering now as businesses will have to continue to de-emphasize hiring labor and businesses and households continue to deleverage their balance sheets.

Continued low economic growth, outsized federal budget deficits will lead to the central government to continue to expand its debt as a percent of GDP and this will be funded almost purely not from savings but from central bank creation of new money out of ether. So as this writer touches on but does not directly address, consider this passage.....
If the Fed buys bonds at the current pace through the end of the year, it will be adding $1.02 trillion to its $2.9 trillion portfolio. Ending the program could send shockwaves through markets, which have grown accustomed to repeated Fed stimulus.

‘Further Expansions’

Strains on the Fed’s credibility: In his Aug. 31 speech in Jackson Hole, Wyoming, Fed Chairman Ben Bernanke said a “potential cost of additional securities purchases is that substantial further expansions of the balance sheet could reduce public confidence in the Fed’s ability to exit smoothly from its accommodative policies at the appropriate time.”

Even if unjustified, he added, “such a reduction in confidence might increase the risk of a costly unanchoring of inflation expectations, leading in turn to financial and economic instability.”

This is a serious threat. Bernanke has stated that the Fed could easily get rid of excess reserves by deciding, in a 15- minute policy-committee phone call, to sell securities from its portfolio.
Serious threat? What will the central bank do? They are completely hamstrung on their current path of forcibly adding liquidity to markets. They are already the buyer of last resort of treasury bonds. If inflation expectations rise, this will be either coupled or caused by falling dollar, and the central bank is forced to sell securities then who is going to buy these trillions of long-term bonds that they have to sell? It won't be the Chinese or other foreign nations. They won't be able to sell domestically. Since this will force interest rates up even more. Meaning that the nations gigantic debt stack will be refinanced at much higher interest rates. Remember that at the current $16 trillion in debt, each 1.0% rise will lead to $160 billion in new interest obligations. The US government will be unable to afford this additional interest. Additionally, the Fed will also be broke, they will not be able to sell the bonds at the price that they purchased them for and will become insolvent. The Fed, through its gigantic balance sheet holdings, since they just create money to pay for the bonds, collects interest on these securities and the "profits'" are given back to the treasury in an annual dividend. Being almost $90 billion in 2012, this is up from previous years of $31.7 billion in 2008, $47.4 billion in 2009, $79.3 billion in 2010 and $75.4 billion in 2011. The treasury has been benefiting from this windfall for the past 5 years but will presumably have to make up the likely gigantic shortfalls in this kind of scenario. The central government has been spending wildly and will be unable to pony up any additional money to support the failing Federal Reserve. Why do you think that Germany and the Netherlands have requested that the Fed return all of the gold that they hold for them in the American vaults?

Why Deleveraging Still Rules Markets in 2013 - Bloomberg

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