QE “Can Do No Good” for the Economy

Asher Edelman, a well-respected businessman who began his career on Wall Street in 1961, argued that the Federal Reserve’s quantitative easing programs do not provide any benefit for the economy and instead only benefit the banking sector at significant taxpayer expense.

When asked in a CNBC interview on Thursday if additional rounds of quantitative easing will help the economy, Edelman responded that “QE 1, 2, 3, 4, 5, 6, twist can do no good because here’s what they’re about: You look at a snake and imagine it swallowing its own tail, you look at the Fed and think that, and if money is fungible and here is what really happens. The government sells Treasuries to the investment banks and other financial institutions and in some cases foreign governments and the financial institutions, including the banks, borrow against those Treasuries at the Fed, and the Fed lends them the money against the Treasuries at a lower interest rate than they’re receiving from the Treasuries, and then the Fed goes back and buys the Treasuries at a higher price than they paid for the Treasuries.”

Edelman went on to say the following:

“Now, if you can tell me how that’s going to aid the economy, please do.  The banks have no incentive whatsoever to lend, and all that’s happening is they’re receiving the vigorish, it’s kind of like the house and a casino.  They eat into their own capital cushion if they take the losses.”

“The only thing that could give them (banks) that incentive to lend is to stop providing them with free profit from the taxpayers number one and number two putting the banks back in the lending business, separating their hedge fund aspects from their lending aspects.”

“The banks are hedge funds but they are hedge funds with free money, they have depositors and government money.  When they earn money they don’t have to give 75% of the money they earn to their investors.  It gets kept by the banks and somewhat distributed to their investors.”

“When they lose money it’s refunded by the taxpayers, so what better hedge fund could you have?”

Edelman’s comments echo those made last month by Dr. John Hussman, who contended that Bernanke’s economic theories are severely flawed:

Think about Fed actions in this context. Ten-year Treasury yields were already below 3% before Bernanke breathed a word about QE2. Treasury bill yields were already at just 15 basis points. Mortgage rates were already low. A long record of historical evidence was available to demonstrate that every 1% move in stock prices has only a 0.03-0.05% impact on real GDP, and a transitory one at that. Banks already held a trillion dollars of idle reserves on their balance sheets. How could a policy targeted at further suppressing yields and distorting financial markets possibly be viewed as a way to relieve binding constraints? How could an economy already plagued by “moral hazard” possibly benefit from the belief that the Fed had provided a “backstop” for speculative risk-taking? With interest rates already at zero, what possible intent could increasing the stock of zero-interest assets by $600 billion have, except to provoke investors to “reach for yield” by accepting greater risk without the material likelihood of durable reward?

Ben Bernanke’s objective of distorting the investment opportunity set and suppressing all risk aversion is dangerous, and is ultimately hopeless as a strategy to improve economic performance. In our view, the prospect of QE3 is questionable, and would be unlikely to draw the same market response as QE2 anyway, given that investors now have more information about its ineffectiveness. The latest iteration of Fed distortion was last week’s explicit promise to suppress interest rates for two more years, until mid-2013. Even that action was met by more opposition from FOMC members than any other decision under Bernanke’s tenure. Nevertheless, the promise to extend zero interest rates for two more years is simply a further attempt – now becoming desperate – to distort the financial markets by dressing up the same pig with lipstick and a flirty dress.

Yesterday Michael “Mish” Shedlock elaborated on these concepts in an excellent article explaining why the Fed cannot get banks to lend money and cannot ultimately prevent debt deflation from working its way through the economy.

Unfortunately the Fed Chairman either is not familiar with any of these concepts, or he has foolishly chosen to ignore them.

Either way, the bull market in gold – now in its 11th year – is sending a strong signal that Bernanke’s policies continue to have very damaging consequences on the global economy.