The Federal Reserve’s Explicit Goal: Devalue the Dollar 33%

The Federal Reserve Open Market Committee (FOMC) has made it official: After its latest two day meeting, it announced its goal to devalue the dollar by 33% over the next 20 years. The debauch of the dollar will be even greater if the Fed exceeds its goal of a 2 percent per year increase in the price level.

An increase in the price level of 2% in any one year is barely noticeable. Under a gold standard, such an increase was uncommon, but not unknown. The difference is that when the dollar was as good as gold, the years of modest inflation would be followed, in time, by declining prices. As a consequence, over longer periods of time, the price level was unchanged. A dollar 20 years hence was still worth a dollar.

But, an increase of 2% a year over a period of 20 years will lead to a 50% increase in the price level. It will take 150 (2032) dollars to purchase the same basket of goods 100 (2012) dollars can buy today. What will be called the “dollar” in 2032 will be worth one- third less (100/150) than what we call a dollar today.

The Fed’s zero interest rate policy accentuates the negative consequences of this steady erosion in the dollar’s buying power by imposing a negative return on short-term bonds and bank deposits. In effect, the Fed has announced a course of action that will steal — there is no better word for it — nearly 10 percent of the value of Americans’ hard earned savings over the next 4 years.

Why target an annual 2 percent decline in the dollar’s value instead of price stability? Here is the Fed’s answer:

“The Federal Open Market Committee (FOMC) judges that inflation at the rate of 2 percent (as measured by the annual change in the price index for personal consumption expenditures, or PCE) is most consistent over the longer run with the Federal Reserve’s mandate for price stability and maximum employment. Over time, a higher inflation rate would reduce the public’s ability to make accurate longer-term economic and financial decisions. On the other hand, a lower inflation rate would be associated with an elevated probability of falling into deflation, which means prices and perhaps wages, on average, are falling — a phenomenon associated with very weak economic conditions. Having at least a small level of inflation makes it less likely that the economy will experience harmful deflation if economic conditions weaken. The FOMC implements monetary policy to help maintain an inflation rate of 2 percent over the medium term.”

In other words, a gradual destruction of the dollar’s value is the best the FOMC can do.

Here’s why: First, the Fed believes that manipulation of interest rates and the value of the dollar can reduce unemployment rates.

The results of the past 40 years say the opposite.

The Fed’s finger prints in the form of monetary manipulation are all over the dozen financial crises and spikes in unemployment we have experienced since abandoning the gold standard in 1971. The financial crisis of 2008, caused in no small part by the Fed’s efforts to stimulate the economy by keeping interest rates too low for, as it turned out, way too long is but the latest example of the Fed failing to fulfill its mandate to achieve either price stability or full employment.

The Fed’s most recent experience with Quantitative Easing also belies the entire notion that monetary manipulation can spur the economy. Between November 2010 and June 2011, the Fed tried to spur economic growth by purchasing $600 billion in Treasury securities, flooding the banking system with reserves and keeping interest rates low. In response the economy, which had been growing at a 3.4% annual rate, slowed to a 1% annual rate in the first half of 2011. Once the Fed stopped supplying all of that liquidity, economic growth in the second half of the year accelerated to a 2.3% annual rate.

Second, the Fed does not use real time indicators of the price level. Instead, it views inflation through the rear view mirror of the trailing increases in the PCE. And, even when it had evidence of rising inflation — as it did in the first quarter of last year — it chose to temporize, betting that the spike in inflation would prove temporary.

This spike in inflation did prove temporary, as Fed Chairman Bernanke predicted at the time, but not for the reasons — a slack economy — that he cited. Instead, the growing debt crisis in Europe led to a massive shift in deposits out of the euro and into the dollar — an event totally out of the Fed’s control. Yet, this increase in the demand for dollars was far more important than any action taken by the Fed because it increased the value of the dollar and produced a slowdown in the inflation rate.

What we are left with is a trial and error monetary system that depends on the best judgment of 19 men and women who meet every six weeks around a big table at the Federal Reserve in Washington. At the end of a day and a half of discussions, 11 of them vote on what to do next. The error the members of the FOMC fear most when they vote is deflation. So, they have built in a 2% margin of error.

Given the crudeness of the tools the FOMC uses to set monetary policy, allowing for such a margin of error is no doubt prudent. For example, when the economy slowed in the first half of last year, inflation picked up, accelerating to a 6.1% annual rate during the second quarter. And, when the economic growth accelerated in the second half, inflation slowed. These results are the precise opposite of what the Fed’s playbook says are supposed to happen.

The best the Fed can do — an average debauch in the dollar’s value of 2% a year while producing recurring financial crises and a more cyclical economy — is demonstrably inferior to the results produced by the classical gold standard. Here’s just one example. The largest gold discovery of modern times set off the 1849 California gold rush and increased the supply of gold in the world faster than the increase in the output of goods and services. The price level in the US did increase by12.4 percent over the next 8 years. That translates into an average of just 1.5% a year. The gold standard at its worst was better than the best the Fed now promises to do with the paper dollar.

The Fed’s best is hardly good enough. The time has arrived for the American people to demand something far better — a dollar as good as gold.




reprinted from Charles Kadlec, 
for The Daily Reckoning

Why You Should Be Buying Gold As the Fed Prints Money by Bill Bonner

Stocks were flat yesterday. Gold was down $8.

Just noise, in other words. Doesn't mean a thing...

But wait...sugar at a 30-year high...cotton at a record high...oil at a 28-month high...

What's going on?

Could the markets have been so wrong last year...and the year before...and the year before? All of a sudden, they're discovering that commodities are a lot more valuable than they had thought.

How could they have been so wrong before? Or are they wrong now?

Or is it just more noise?

And what's this?

"Fed passes China in Treasury holdings," says The Financial Times. So, who's the biggest holder of US debt? The Fed! And since the Fed doesn't have any real money to speak of, how did it get all those US bonds?

It simply created the money to buy them. Out of thin air.

In other words, the US didn't really borrow the money at all. It just printed money.

Whoa! Isn't that what Zimbabwe did? Isn't that what the Reichsbank did? Isn't that what Banana Republics do...just before they go bust? They can't pay their expenses honestly, so they just print up some extra currency and hope nobody notices. But people do notice, eventually. And they dump the currency.

Well, maybe this time it is different. Hope so. Because the Fed just keeps printing money. It has a mandate to buy $600 billion of US Treasury debt in the first half of this year.

Surely that isn't just noise, is it? No, it's something important. Something you need to pay attention to. It's something that affects the value of every dollar you've ever managed to save. Maybe it's why commodities are so high. And maybe it's why the euro is back up to $1.38. And maybe it's why the smart money is buying gold.

Gold is what you buy when you fear the authorities are up to no good. But so far, very few people own gold. Ask your friends and neighbors. Many will have never considered buying gold...and they'll look at you as though you were a kook for suggesting it.

In the average man's mind - at least the average mind of the average citizen of one of the average mature social welfare states - the government controls the money. And he thinks he can trust the government. Because government is a good thing. It is there to ease his suffering...

..it will make sure that the rich don't get too rich...

..and that he will have a retirement pension, public libraries, fire departments, and food tasters. If his car has a defect, he'll count on the feds to make sure it gets called in and fixed too.

..and his money? Despite the evidence of 100 years of Fed stewardship - in which the dollar lost 97% of its purchasing power - he still believes that the feds are on the case, and that they'll make sure the US dollar is a valuable and reliable way to store wealth.

And if he's wrong? Then, the feds will turn out to be less reliable than he believes. And he'll be out beaucoup dollars.

And more thoughts...

The average man doesn't care much what kind of government he has. He has a foggy view of the whole thing...a bit of Mystic Knights of the Sea combined with the Rights of Man, Democracy, and supporting the home team.

To say that he doesn't think clearly about it is misstating the situation. He doesn't think about it at all.

And why should he? He has better things to do - like earning money and watching television.

But he still expects things of government. At the most basic level, he wants the feds to keep order. Nobody likes disorder...except for people who cause it. And even their appetite for anarchy is limited and temporary. They like it only until they have a chance to impose some kind of order of their own.

Today's modern governments have struck a bargain with the common man. They keep order, of course. But there's more to it than that. Keeping order doesn't cost very much. And governments today, as Paul Krugman puts it, are "big, ambitious and expensive."

What do they do? They promise to look after the voter...to ease his pains...to succor him and support him in all his endeavors. That is, the voter looks to the government as he once looked to the church - to salve his sufferings.

But what does he suffer from? Not from want. There are very few - if any - people in America or the other developed nations who suffer from real want. Instead, having too much is likely to be their problem. They eat too much. They have too much stuff. They've spent too much. And they have too many things to do and not enough time to do them.

They suffer from plenty, not from want.

Then, what suffering does the government alleviate? What itch does it scratch? What hurt does it make go away?

As we discussed yesterday, people do not necessarily want to be richer. What they want more than that is not to be too much poorer than their neighbors. It's relative wealth that counts.

There was a wise and silly report in The Financial Times earlier this week. The writer criticized Barack Obama's drive to make America more "competitive." He pointed out that being competitive is not the same as being rich. You get richer by becoming more productive. You don't get richer - necessarily - from becoming more competitive. Someone may be even more productive than you are. So what? As long as you're able to produce more goods and services, more efficiently, you will be richer.

Trouble is, people are naturally competitive. They judge their own wealth and status in comparison to that of others. Without a point of reference, wealth - beyond what you need to survive - is irrelevant.

You're probably wondering where we're going with this. And to tell you the truth, in all the excitement, we kind of lost track ourselves...

..but here's the point: what the common man really wants is for the government to beat down the rich...and humble the powerful. His suffering is the kind of suffering the Bible condemns: envy.

He wants what isn't his. He covets his neighbor's ass. Not because he needs another ass, but because he thinks it isn't fair that the neighbor has it.

He only wants what is "fair"...unless he can get an unfair advantage himself.

Regards,

Bill Bonner,
for The Daily Reckoning
Reprinted from an email distributed by www.dailyreckoning.com