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Tuesday, September 30, 2008

When in doubt...Inflate.

If you think Ben Bernanke is going to stand by and watch the banking sector crumble, the money supply nose dive and deflation take hold of this economy, rethink it. And then forget it man.

The Federal Reserve has been changing the composition of its balance sheet by offsetting discount and other loans with open market operation sales. It may be possible and I do not have a final answer, but, just thinking out loud, it seems unlikely that what is described below will be 100% offset or "sterilized" in econ jargon.

From Greg Mankiw's blog:

http://www.bloomberg.com/apps/news?pid=email_en&refer=worldwide&sid=a9MTZEgukPLY

The alternative is to close the discount window and other borrowing avenues banks have at the Fed. "That will teach 'em boy...give them a lesson they won't soon forget...we'll show them who's boss...they aren't gonna pin this on Joe Six Pack...Wall Street ain't gonna make a monkey outta me, see? " Just like Treasury Secretary Mellon said during the Depression, liquidate everything, it will "purge the rottenness from the system."

And your Congressional Representative may well have said: "Made it Ma, I rejected the Bailout Package, Top Of the World" htttp://www.youtube.com/watch?v=OjzKiEs_pHI

"I did it Ma! I showed 'em. I rejected the Bailout Ma!"

God help us.

3 comments:

Mark said...

Professor,
Could you explain to a layman exactly what the Bloomberg article means? How can the Fed inject $630 billion in the global finance system? What does that mean? Where does the money come from? Why is there a need for Congress to wrangle over a $700 billion bailout if the Fed can arbitrarily pop off nearly that amount?

Randall Parker said...

Happily Mark, and thanks for the question. The Fed can create bank reserves by providing loans to banks from what is called the Discount Window (among other entities). Banks put up collateral and the Fed loans them money or bank reserves. This increases what is called the monetary base which can ultimately increase the supply of money. The money comes from electronic book entries which is what most money is. The fed can create these with the touch of a finger on a key board. We need the bailout because although the Fed could pop off any huge chucks of $$$, it will be inflationary and have negative consequences for the economy. If the Treasury borrows it that will not have the same effect on the price level. Moreover, bail outs throughout our economic history have been run by the Treasury, as it should be. But make no mistake, the Fed could make housing prices go up 10% next week and inflate our way out of this mess if it came to that (pray God no).

Anonymous said...

The top of the world is the US congress --- they live the life of a King and stick us with the bill! we need to blow up the policial system and start over! no one should be allowed to be in congress over two terms just like the President--- get rid of these bums! than we all will be on top of the world again.