Economics

Fed introduces new economic indicator to better assess the labour market

Economists at the Federal Reserve have devised a new indicator, which they hold will enable US central bank policy makers to get better information regarding the state of the labour market. The metric is labelled as the Labour Market Conditions Index (LMCI).

Note that one of the key data Fed policy makers are paying attention to is the labour market. The state of this market dictates the type of monetary policy that is going to be implemented.

Fed policy makers are of the view that it is the task of the central bank to navigate the economy toward a path of stable self-sustaining economic growth.

One of the indicators that is believed could inform policy makers about how far the economy is from this path is the state of the labour market.

A strengthening of the labour market is seen as indicative that the economy may not be far from the desired growth path.

A weakening in the labour market is interpreted as indicating that the distance is widening and the economy’s ability to stand on its own feet is diminishing.

Once the labour market shows strengthening this also raises the likelihood that the Fed will reduce its support to the economy. After all, to provide support whilst the economy is on a path of stable self-sustained growth could push the economy away from this path towards a path of accelerating price inflation, so it is held.

Conversely, a weakening labour market conditions raises the likelihood that the Fed will either maintain or strengthen its loose monetary stance. Failing to do so, it is held, could push the economy onto a path of price deflation and economic crisis.

The uniqueness of the LMCI, it is held, is that it covers a broader range of labour market pieces of information thereby raising the likelihood of depicting a more correct state of labour market conditions than an individual piece of information could provide.

The LMCI is derived from 19 indicators such as the number of people employed full time and part time, the labour participation rate, the hiring rate, hiring plans etc.

When the index is rising above the zero line it is interpreted that labour market conditions are strengthening. A fall in the index below the zero line is taken as a deterioration in the labour market.

In September the index rose by 2.5 points after gaining 2 points in August. Note however that in April this year the index increased by 7.1 points. Following the logic of Fed policy makers and assuming that they will pay some attention to the LMCI, if the index were to continue strengthening then the Fed may start considering tightening its monetary stance.

lmci

We suggest that the Fed’s responses to the LMCI are not going to bring the economy onto a path of stability and self-sustaining economic growth, but on the contrary will lead to more instability and economic impoverishment.

The state of a particular indicator such as the LMCI cannot tell us the state of the pool of real wealth i.e. whether it is expanding or shrinking.

It is not important to have people employed as such but to have them employed in wealth generating activities. Employment such as digging ditches and building non-wealth generating projects are only depriving wealth generators from the expansion of the pool of real wealth. This undermines the ability to grow the economy and leads to economic misery.

The belief that the Fed can navigate and grow the economy is wishful thinking. All that Fed officials can do is to pump money and tamper with the interest rate structure. None of this however can lead to economic growth.

The key to economic growth is the expansion in capital goods per individual. This expansion however must be done in accordance with the dictates of the free market and not on account of an artificial lowering of interest rates and monetary pumping.

Loose monetary policy will only result in the expansion of capital goods for non-wealth generating projects i.e. capital consumption.

 

Only by means of the allocation of resources in accordance with the dictates of the market can a wealth generating infrastructure be established. Such infrastructure is going to lead to economic prosperity.

To conclude then, the Fed’s new indicator adds more means for US central bank officials to tamper with the economy, which will lead to greater economic instability and economic impoverishment.

 

Summary and conclusions

The Fed has introduced a new economic indicator labelled the Labour Market Conditions Index (LMCI). The LMCI is derived from 19 labour market related indicators; hence it is held it is likely to provide a more realistic state of the labour market.

This in turn will enable Fed policy makers to navigate more accurately the economy toward a path of stable non-inflationary economic growth.

We suggest that what is required is not information about the strength of the labour market as such but information on how changes in labour market conditions are related to the wealth generation process.

This however, the LMCI doesn’t provide. Since Fed officials are likely to react to movements in the LMCI we hold this will only lead to a deepening in the misallocation of resources and to a further weakening of the wealth generation process.

Media

Interview with St. Louis Fed Vice President on Bitcoin

Dr David Andolfatto, who is Vice President of the St. Louis Fed, has been one of the most forward-looking people at central banks around the world when it comes to crypto-currencies. Here he speaks with Max Rangeley, Editor at The Cobden Centre, and gives his views on what Bitcoin means for commerce, finance, and the dollar itself.

Max: How have you found the reactions to Bitcoin within the Fed?

David: Bitcoin is barely on the radar screen for most Fed researchers and policymakers. This is to be expected, given the large size of the Fed’s balance sheet and the debate over how to conduct monetary policy with the existence of large excess reserves. But I am aware of a small group of researchers scattered throughout the Fed system that seem interested in the Bitcoin phenomenon. Some, like Francois Velde of the Chicago Fed, have written nice primers on the phenomenon. I am also aware of a cryptocurrency workshop that meets monthly at the New York Fed. The reaction of most people (who study it) might be described as “academic agnosticism” in the sense that people are curious, but not enthusiastically in favor or against the idea.

Max: How do you see Bitcoin being used in the future? Do you foresee private currencies being commonly used on the high street alongside state-backed currencies, or remaining largely online phenomena?

David: Who can say how the future will evolve, especially in this space? My best guess is that Bitcoin will find a niche market. It’s cool to use bitcoin to pay for your Starbucks latte on university campuses (this is what my university is doing). It may very well find a place on the high street, at least among some shops catering to the “cool” crowd. But for advanced economies, at least, it is hard to see how consumers will benefit directly by using bitcoins instead of dollars or pounds. As Satoshi Nakamoto wrote in his seminal 2008 paper introducing Bitcoin, “…the [current] system works well enough for most transactions…”

Max: If the use of private currencies became more widespread, do you think that central banks would ever track monetary aggregates in circulation, even if just approximately, much as M2, M3 etc are tracked now?

David: Anything is possible, but I doubt it. One issue is that there many of these “wildcat” currencies, with more appearing every day (every online game has its own currency for example, as do most social media sites). In a sense, these currencies are “local” monies (much like the local currencies that have always existed, like the Ithaca hour, for example). I’m not sure how a statistical agency could keep track of all these little local currencies, or whether it would even be worthwhile to do so. But who knows?

Max: If private currencies were to become widely used around the world, do you think that this could have an effect on the business cycle, since central banks would not have as much control over monetary factors?

David: I do not think it would have much of an effect on the business cycle, which I think is rooted more in “real” and “financial” factors, rather than “monetary” factors, per se.

Max: You mentioned in your presentation on Bitcoin that although supply is fixed, demand can fluctuate significantly, which causes volatility, would you say this is a weakness inherent in private currencies, or is there the possibility that algorithms could evolve to incorporate a degree of elasticity?

David: Remember that Bitcoin is *more* than a private currency: it is a payment system and monetary policy with *no trusted intermediary* involved. Most private currencies entail the use of trusted third parties. EVE online, for example, an online game founded in 2003 has evidently managed its money supply in a manner that keeps its value relatively stable. It may be possible to code an “elastic money supply” rule in the Bitcoin protocol, but it is not immediately clear to me how this might work. Injecting new money into the system would be easy. The tricky part would be in how to destroy money (having the algorithm debit Bitcoin wallets that are secured by private keys).

Max: You mentioned that you welcome the competition for central banks; if private currencies became widely used, could it chip away at American supremacy, a degree of which is based on the dollar, the so-called “exorbitant privilege”?

David: In my view, America supremacy is not based on the dollar. The status of the dollar simply reflects American supremacy, which is based fundamentally on the structure of that economy (something “real” not “monetary”). The America dollar already faces stiff competition from a variety of alternative candidates, including the Yen, the Euro, and gold. If gold cannot displace the USD, why would we expect Bitcoin to?

Money

Does low US price inflation provide room for a more aggressive Fed?

The US Federal Reserve can keep stimulating the US economy because inflation is posing little threat, Federal Reserve Bank of Minneapolis President Kocherlakota said. “I am expecting an inflation rate to run below 2% for the next four years, through 2018”, he said. “That means there is more room for monetary policy to be helpful in terms of … boosting demand without running up against generating too much inflation”.

The yearly rate of growth of the consumer price index (CPI) stood at 1.7% in August against 2% in July and the official target of 2%. According to our estimate the yearly rate of growth of the CPI could close at 1.4% by December. By December next year we forecast the yearly rate of growth of 0.6%.

Shostak CPI

It seems that the Minneapolis Fed President holds that by boosting the demand for goods and services by means of an additional monetary pumping it is possible to strengthen the economic growth. He believes that by means of strengthening the demand for goods and services the production of goods and services will follow suit. But why should it be so?

If by means of monetary pumping one could strengthen the economic growth then it would imply that by means of monetary pumping it is possible to create real wealth and generate an everlasting economic prosperity.

This would also mean that world wide poverty should have been erased a long time ago, after all most countries today have central banks that possess the skills of how to pump money. Yet world poverty remains intact.

Despite the massive monetary pumping since 2008 and the policy interest rate of around zero Fed policy makers seem to be unhappy with the so-called economic recovery. Note that the Fed’s balance sheet, which stood at $0.86 trillion in January 2007 jumped to $4.4 trillion by September this year – a monetary pumping of almost $4 trillion.

Shostak Fed Balance Sheet

We suggest that there is no such thing as an independent category called demand. Before an individual can exercise demand for goods and services he/she must produce some other useful goods and services. Once these goods and services are produced individuals can exercise their demand for the goods they desire. This is achieved by exchanging things that were produced for money, which in turn can be exchanged for goods that are desired. Note that money serves here as the medium of the exchange – it produces absolutely nothing. It permits the exchange of something for something. Any policy that results in monetary pumping leads to an exchange of nothing for something. This amounts to a weakening of the pool of real wealth – and hence to reduced prospects for the expansion of this pool.

What is required to boost the economic growth – the production of real wealth – is to remove all the factors that undermine the wealth generation process. One of the major negative factors that undermine the real wealth generation is loose monetary policy of the central bank, which boosts demand without the prior production of wealth. (Once the loopholes for the money creation out of “thin air” are closed off the diversion of wealth from wealth generators towards non-productive bubble activities is arrested. This leaves more real funding in the hands of wealth generators – permitting them to strengthen the process of wealth generation i.e. permitting them to grow the economy).

Now, the artificial boosting of the demand by means of monetary pumping leads to the depletion of the pool of real wealth. It amounts to adding more individuals that take from the pool of real wealth without adding anything in return –an economic impoverishment.

The longer the reckless loose policy of the Fed stays in force the harder it gets for wealth generators to generate real wealth and prevent the pool of real wealth from shrinking.

Finally, the fact that the yearly rate of growth of the CPI is declining doesn’t mean that the Fed’s monetary pumping is going to be harmless. Regardless of price inflation monetary pumping results in an exchange of nothing for something i.e. an economic impoverishment.

Money

Valuing gold and turkey-farming

Today’s financial markets are built on the sand of unsound currencies. Consequently brokers, banks and investors are wedded to monetary inflation and have lost both the desire and ability to understand gold and properly value it.

Furthermore governments and central banks in welfare-driven states see markets themselves as the biggest threat to their successful management of the economy, a threat that needs to be tamed. This is the backdrop to the outlook for the price of gold today and of the forces an investor in gold is pitted against.

At the heart of market control is the substitution of unsound currency for sound money, which historically has been gold. Increasing the quantity of currency and encouraging banks to increase credit out of thin air is the principal means by which central banks operate. No matter that adulterating the currency impoverishes the majority of the population: central banks are working from the Keynesian and monetarist manual of how to manage markets.

In this environment an investor risks all he possesses if he insists on fighting the system; and nowhere is this truer than with gold. Gold is not about conventional investing in this world of fiat currencies, it is about insurance against the financial system collapsing under the weight of its own delusions. Regarded as an insurance premium against this risk, gold is common sense; and there are times when it is worth increasing your insurance. In taking that decision, an individual must be able to evaluate three things: the relative quantities of currency to gold, the likelihood of a systemic crisis and the true cost of insuring against it. We shall consider each of these in turn.

The relationship of currency to gold

Not only has the quantity of global currency and bank credit expanded dramatically since the Lehman crisis, it is clear that this is a trend that cannot now be reversed without triggering financial chaos. In other words we are already committed to monetary hyperinflation. Just look at the chart of the quantity of US dollar fiat money and note its dramatic growth since the Lehman crisis in 2008.

FMQ 26092014

Meanwhile, the quantity of above-ground stocks of gold is growing at less than 2% annually. Gold is therefore getting cheaper relative to the dollar by the day. [Note: FMQ is the sum of all fiat money created both on the Fed’s balance sheet and in the commercial banks. [See here for a full description]

Increasing likelihood of a systemic crisis

Ask yourself a question: how much would interest rates have to rise before a systemic crisis is triggered? The clue to the answer is illustrated in the chart below which shows how lower interest rate peaks have triggered successive recessions (blue shaded areas are official recessions).

Effective Fed Funds 26092014

The reason is simple: it is the accumulating burden of debt. The sum of US federal and private sector debt stands at about$30 trillion, so a one per cent rise in interest rates and bond yields will simplistically cost $300bn annually. The increase in interest rates during the 2004-07 credit boom added annual interest rate costs of a little over double that, precipitating the Lehman crisis the following year. And while the US this time might possibly weather a two to three per cent rise in improving economic conditions, much less would be required to tip other G8 economies into financial and economic chaos.

The real cost of insurance

By this we mean the real price of gold, adjusted by the rapid expansion of fiat currency. One approach is to adjust the nominal price by the ratio of US dollars in circulation to US gold reserves. This raises two problems: which measure of money supply should be used, and given the Fed has never been audited, are the official gold reserves as reported to be trusted?

The best option is to adjust the gold price by the growth in the quantity of fiat money (FMQ) relative to the growth in above-ground stocks of gold. FMQ is constructed so as to capture the reversal of gold’s demonetisation. This is shown in the chart below of both the adjusted and nominal dollar price of gold.

Gold USD 26092014

Taken from the month before the Lehman collapse, the real price of gold adjusted in this way is $550 today, based on a nominal price of $1220. So in real terms, gold has fallen 40% from its pre-Lehman level of $920, and has roughly halved from its adjusted high in 2011.

So to summarise:

• We already have monetary hyperinflation, defined as an accelerating debasement of the dollar. And so for that matter all other currencies that are referenced to it are on a similar course, a condition which is unlikely to be halted except by a final systemic and currency crisis.
• Attempts to stabilise the purchasing power of currencies by raising interest rates will very quickly develop into financial and economic chaos.
• The insurance cost of owning gold is anomalously low, being considerably less than at the time of the Lehman crisis, which was the first inkling of systemic risk for many people.

So how is the global economy playing out?

If the economy starts to grow again a small rise in interest rates would collapse bond markets and bankrupt over-indebted businesses and over-geared banks. Alternatively a contracting economy will increase the debt burden in real terms, again threatening its implosion. So the last thing central banks will welcome is change in the global economic outlook.

Falling commodity prices and a flight from other currencies into the dollar appear to be signalling the greater risk is that we are sliding into a global slump. Even though large financial speculators appear to be driving commodity and energy prices lower, the fact remains that the global economy is being undermined by diminishing affordability for goods and services. In other words, the debt burden is already too large for the private sector to bear, despite a prolonged period of zero official interest rates.

A slump was halted when prices collapsed after Lehman went bust; that time it was the creation of unlimited money and credit by the Fed that saved the day. Preventing a slump is the central banker’s raison d’être. It is why Ben Bernanke wrote about distributing money by helicopter as the final solution. It is why we have had zero interest rates for six years.

In 2008 gold and oil prices fell heavily until it became clear that monetary stimulus would prevail. Equities also fell with the S&P 500 Index down 60% from its October 2007 high, but this index was already 24% down by the time Lehman failed.

The precedent for unlimited creation of cash and credit has been set and is undisputed. The markets are buoyed up by a sea of post-Lehman liquidity, are not discounting any trouble, and are ignoring the signals from commodity prices. If the economic downturn shows any further signs of accelerating the adjustment is likely to be brutal, involving a complete and sudden reassessment of financial risk.

This time gold has been in a bear market ahead of the event. This time the consensus is that insurance against financial and systemic risk is wholly unnecessary. This time China, Russia and the rest of Asia are buying out physical bullion liquidated by western investors.

We are being regularly advised by analysts working at investment banks to sell gold. But bear in mind that the investment industry is driven by trend-chasing recommendations, because that is what investors demand. Expecting analysts to value gold properly is as unlikely as farmers telling turkeys the truth about Thanksgiving.

Money

End the Fed’s War on Paychecks

The Democratic Party has made “income inequality” a signature issue for the 2014 (and, presumably, 2016) election cycle.  Democrats, en masse, shout “J’accuse!” at Republicans.  There is a very different story to tell.

“Income inequality” is a crude, and twisted, heuristic for stagnant median family income.   “Income inequality” does not really resonate with voters, asnoted by the Washington Post‘s own Catherine Rampell, with a mountain of evidence showing that Americans don’t begrudge the wealthy their wealth, just are frustrated at the lack of widespread economic opportunity.

So let’s get down to cases.  Stagnant median family income is not the GOP’s fault.  It’s the Fed who done it.

The Atlantic Media Company’s Quartz recently claimed that the Fed has been intentionally keeping a lid on wages.  This has potentially major political implications.  Among other things, this view would allow the Republicans to push the discourse back toward the real problem, wage stagnation.  It can serve to refocus the Congress on the real solution, restoring real, rule-based, integrity to monetary policy as a way to get America moving again.

A culpable Fed gives irony to the fact that it is the Democrats that protect the Fed as if it were the Holy of Holies of the Temple.  What if, as asserted inQuartz, the Fed, by policy, and not the GOP, is the source of wage stagnation?  This opens an opportunity for the GOP to parry the political narrative of “income inequality” and feature the real issue on the mind of the voters and forthrightly to address its core cause, poor monetary policy.

This has been slow to happen because Federal Reserve has exalted prestige. The elite media has a propensity to canonize the Chair of the Fed.   Media adulation has obscured the prime source of the stagnation besetting American wage earners for the past 43 years.

Paul Volcker’s life was exalted (with some real justification), for instance by New York Times prize-winning journalist Joseph B. Treaster as The Making of a Financial Legend.  Downhill from there…

English: Official picture of Janet Yellen from...Official picture of Janet Yellen from FRBSF web site.  (Photo credit: Wikipedia)

Chairman Greenspan was featured on the cover of Time Magazine’s February 15, 1999 issue as the most prominent member of “The Committee To Save The World.”  One of the greatest investigative journalists of our era, Bob Woodward, wrote a deeply in-the-tank hagiography of Alan Greenspan, entitled Maestro. In retrospect, the halo the media bestowed was faux.

The Atlantic Monthly, in its February 12, 2012 issue, featured Fed Chairman Ben Bernanke on its cover as The Hero.  (Hedging its bets, The Atlantic ran a duplicate inside cover referencing him as The Villain.)  Author Roger Lowenstein wrote: “Ben Bernanke saved the economy—and has navigated masterfully through the most trying of times.”  The adulation for Chairman Bernanke, in retrospect, seems overdone.  Even President Obama, at the end of Bernanke’s final term, gave him a not-so-subtle push out the door, as reported by CNN: “He’s already stayed a lot longer than he wanted, or he was supposed to….”

It’s Janet Yellen’s turn for media canonization.  This is premature.

Madame Yellen’s institutional loyalty and obvious decency command this columnist’s respect. Her intentions present as — profoundly — good.  That said, the road to a well-known, notorious, destination is said to be paved with good intentions.  Moreover, canonization demands that a miracle be proven.  None yet is in evidence.

The canonization of Madame Yellen began in earnest with an August 24 article in Politico by Michael Hirsch, The Mystery Woman Who Runs Our Economy. The process was taken up to the next level the very next day in an article by Matt Phillips in QuartzJanet Yellen’s Fed is more revolutionary than Ben Bernanke’s ever was

Hirsch tees it up in Politico nicely:

As has been written, Yellen is clearly passionate about the employment problem. It was no accident that the theme of this year’s Jackson Hole meeting was “labor market dynamics,” and the AFL-CIO’s chief economist, Bill Spriggs, was invited while Wall Street economists were not.

Yellen is also very cagey about whether that’s happening or not: She’s playing her own private game of chicken with inflation, indicating that she wants to see more wage growth for workers (another thing that’s hard to track ahead of time) before she raises rates. Beneath the careful analysis and the caveat-freighted sentences, the bottom line seems to be: “We’re making this up as we go along.”

Phillips, in Quartz, observes that it has been Fed policy to suppress wages for two generations.  Phillips:

From her position as the world’s single most powerful economic voice, the chair of the US Federal Reserve, Janet Yellen, is forcing the financial markets to rethink assumptions that have dominated economic thinking for nearly 40 years. Essentially, Yellen is arguing that fast-rising wages, viewed for decades as an inflationary red flag and a reason to hike rates, should instead be welcomed, at least for now.

It might sound surprising to most people who work for a living, but for decades the most powerful people in economics have seen strong real wage growth—that is, growth above and beyond the rate of inflation—as a big problem.

Phillips then gets to the point, providing what passes for economic wisdom among the enablers of the Fed’s growth-sapping (including wage-enervating) interventions.

Since the end of the Great Inflation, the Fed—and most of the world’s important central banks—have gone out of their way to avoid a replay of the wage-price spiral. They’ve done this by tapping on the economic brakes—raising interest rates to make borrowing more expensive and discourage companies from hiring—as wages started to show strong growth.

Phillips provides this exaltation of Janet Yellen:

If she’s right, and American paychecks can improve without setting off an inflationary spiral, it could upend the clubby world of monetary policy, reshape financial markets, and have profound implications for everything ….

Higher real wages, without exacerbating inflation, indeed would be something to cheer.  That, demonstrably, is possible.  The devil is in the details.

There’s persuasive, even compelling, evidence that the international monetary system is better governed by, and working people benefit from, a smart rule rather than the discretion of career civil servants, however elite.  An important Bank of England paper in 2011, Financial Stability Paper No. 13, contrasts the poor performance, since 1971, of the freelancing Fed with the precursor Bretton Woods, and with classical gold standard, rules.  This paper materially advances the proposition of exploring “a move towards an explicit rules-based framework.”

A rule-based system would represent a profound transformation of how the Fed currently does its business. House Financial Services Committee Chairman Jeb Hensarling (R-Tx) said, in a recent hearing, that “The overwhelming weight of evidence is that monetary policy is at its best in maintaining stable prices and maximum employment when it follows a clear, predictable monetary policy rule.”

Madame Yellen stated that “It would be a grave mistake for the Fed to commit to conduct monetary policy according to a mathematical rule.”  Contrast Madame Yellen’s protest with a recent speech by Paul Volcker in which he forthrightly stated: “By now I think we can agree that the absence of an official, rules-based cooperatively managed, monetary system has not been a great success.  In fact, international financial crises seem at least as frequent and more destructive in impeding economic stability and growth. … Not a pretty picture.”

Madame Yellen’s ability to achieve her (postulated) goal of rising real wages in a non-inflationary environment likely depends on who is right here, Yellen or Volcker.  It is a key issue of the day.  The threshold issue currently is framed as between “a clear, predictable monetary policy rule” and the discretion of the Federal Open Market Committee.  The available rules are not limited to mathematical ones but, to achieve real wage growth and equitable prosperity, the evidence fully supports the proposition that a rule is imperative.

Returning America to consistently higher real wage growth is a Holy Grail for this columnist.  Equitable prosperity, very much including the end of wage stagnation, is a driving objective for most advocates of a rule-based system, very much including advocates of “the golden rule.”

Getting real wages growing is a laudable, and virtuous, proposition.  Premature canonization, however, is a flattering injustice to Madame Yellen … and to the Fed itself.  The Federal Reserve is lost in a wilderness — “uncharted territory” — partly, perhaps mainly, of its own (well-intended) concoction.

The road to the declaration of sainthood requires, according to this writer’s Catholic friends, documentation of miracles.  If this writer may be permitted to play the role of advocatus diaboli for a moment … no American Economic Miracle — akin to the Ludwig Erhard’s German “Economic Miracle,” the Wirtschaftswunder, driven by currency reform — yet appears in evidence.

Expertise, which Chair Yellen certainly possesses in abundance, can lead to hubris … and hubris in disaster as it did in 2008.  Good technique is necessary but not sufficient.

As this writer elsewhere has noted,

Journalist Edwin Hartrich tells the following story about Erhard …. In July 1948, after Erhard, on his own initiative, abolished rationing of food and ended all price controls, Clay confronted him:

Clay:  “Herr Erhard, my advisers tell me what you have done is a terrible mistake. What do you say to that?”

Erhard: “Herr General, pay no attention to them! My advisers tell me the same thing.”

Erhard, famously, proved right, his experts, wrong.

Madame Yellen by dint of her decency and intellect may yet prove capable of restoring the Great Moderation … and the real wage growth, with low inflation, that went with that.  Yet, at best, Great Moderation 2.0 would be, as was its predecessor, a temporary, rather than sustainable, solution. “Making it up as you go along” is a proposition fraught with peril.

At worst, if Madam Yellen has, as observers such as Forbes.com‘s John Tamny detect, a proclivity for cheapening the dollar as a path to real wage growth she easily could throw working people out of the frying pan and into the fires of inflation.  Moreover, the Fed’s proclivities toward central planning may be one of the most atavistic relics of a bygone era.  Central planning, by its very nature, even if well meant, always suppresses prosperity.   As the sardonic statement from the Soviet Union went, “So long as the bosses continue to pretend to pay us we will pretend to work.”

Some who should know better ignorantly, and passionately, still are stuck in William Jennings Bryan’s rhetorically stirring but intellectually vacuous 1896 declaration, “You shall not press down upon the brow of labor this crown of thorns, you shall not crucify mankind upon a cross of gold.”  This is a plank that won Bryan his party’s nomination and cost him the presidency… three times. The electorate knows that cheapening the money is the problem, not the solution.

The Fed, not the gold standard, pressed down the crown of thorns upon labor’s brow. The GOP, rather than playing rope-a-dope on “income inequality,” would do well to dig down to find the monetary rule with which to restore a climate of equitable prosperity and real wage growth.  Results, not intentions, are what counts.

There is abundant evidence that the right rule-based system would not be a “grave mistake” but a smart exit ramp back to growth of real wages.  Anything the Fed does that departs from a dollar price rule is anti-equitable-prosperity.  Anything else hurts all, labor and capital. The Congress, under the leadership of Chairmen Garrett (R-NJ) and Hensarling (R-Tx), whose committee has in front of it the Federal Reserve Accountability and Transparency Act and Joint Economic Committee Chairman Kevin Brady’s (R-Tx) Centennial Monetary Commission, at long last, is bestirring itself. Now is the right time to amp up the crucial debate over monetary policy … by enacting both of these pieces of legislation.

Money

The Taylor Rule Won’t Save Us

[Editor's Note: This article, by Mateusz Machaj, first appeared at mises.org]

 

Various criticisms have been raised against the Fed, not only from the side favoring the abolition of central banking, but also from the side of those who argue that the Federal Reserve is indispensable for stability. One of those arguments came from respected economist John Taylor, who is the author of the often mentioned “Taylor Rule” on how to conduct monetary policy, with two House Republicans recently proposing to impose this “rule” on the Fed .

Like Taylor, politicians who advocate for such a rule blame huge credit expansion for the Great Recession. Unfortunately such policymakers are usually not convinced by the Austrian arguments in favor of abolition of the Federal Reserve. Instead they are convinced by John Taylor’s statistical demonstrations. According to Taylor, the Fed set the interest rates too low in the beginning of this century, which led to an unsustainable real estate boom. He adds nonetheless: if only the central bank followed his rule of proper interest rate levels, then monetary policy would work very well.

For Taylor, the Federal Funds rate in recent years should have looked something like this:

The first thing to note about the Taylor Rule is that, strictly speaking, there is no such thing as one universal Taylor Rule. There are many possible Taylor Rules, depending on a variety of factors, on which there is no agreement. Any version of the rule crucially depends on the usage of mathematical variables and their coefficients in the used equation, which is used for calculating the “right” level of interest rates set by the central bank. Those main variables are price inflation and the so called “output gap,” a difference between “actual output” and “potential output.”

Depending on which variables we exactly pick and how we use them, we can have different rules, and therefore different interest rate policy recommendations. It is all well documented in the mainstream literature. Economists disagree how to measure “potential output” (should we use trends, econometric models, or “production function models”?) and there is no agreement how much importance should be assigned to it. There are discussions about the nature of the data that is being used — should it be the one registered currently, or real-time data, or should it be somehow adjusted, since every data set will sooner or later become revised data? Or perhaps since monetary policy takes time we should focus more on the predicted data, rather than just look at the immediate past? We can add to this the Austrian flavor: there are problems with proper price inflation measurements (various indices can differ significantly), and even the actual output measurements can be questioned as proper indicators of economic activity.

It is in fact the case that one can come up with several versions of the Taylor Rule. For example, we could come up with one that would recommend lower interest rates than what we had at the beginning of this century or we could come up with a version of the rule that would recommendhigher interest rates. Or we could come up with one that suggests no change. Research does not give us any clear answer which version of the rule should be chosen.

One particular version which John Taylor is using for his criticism of Alan Greenspan, for example, serves as an ex post demonstration that interest rates should have been higher. Yet there is nothing really that special about this inference. After the fact, anyone can come up with an alternate version of any rule to demonstrate that interest rates should have been higher.

The crucial question to be answered is the following: can reliance on one particular version of the Taylor Rule pave the way for a bubble-proof economy? As described above, a Taylor Rule in any of its versions can at best target the balance between a chosen index for “price inflation” and a chosen way of measuring the invented concept of aggregate “potential output.”

The problem is that targeting either of those macroeconomic variables is not a recipe forintertemporal coordination understood in the Hayekian sense: as coordination between successive stages of production. In his major works Hayek proved that targeting one selected variable, such as price inflation, is not a proper formula for macroeconomic stability. Actually, stabilizing the index may ultimately cause macroeconomic destabilization. It is the same case with Taylor Rules, although in the rule the concept of “potential output” is hidden. Yet this potential output describes production in the aggregate, so it cannot capture the notion of intertemporal coordination among many acting individuals in countless industries.

Malinvestment bubbles are still possible when the central bank follows Taylor Rules, because by targeting potential output and price inflation the central bank triggers artificial credit expansions. For an example, we need only look to the dot-com bubble which happened even though the federal funds rates were actually significantly higher in the nineties than the most-used version of the Taylor Rule would recommend at that time.

The answer to the Taylor Rule is the Hayek Rule, which is the rule of balancing savings with investments in truly free financial markets. Meanwhile, we must endure the current situation of a market stimulated by the central bank with its pretense of knowledge about the “right” price for money and credit.

Economics

The wages-fuel-demand fallacy

In recent months talking heads, disappointed with the lack of economic recovery, have turned their attention to wages. If only wages could grow, they say, there would be more demand for goods and services: without wage growth, economies will continue to stagnate. It amounts to a non-specific call to stimulate aggregate demand by continuing with or even accelerating the expansion of money supply. The thinking is the same as that behind Bernanke’s monetary distribution by helicopter. Unfortunately for these wishful-thinkers the disciplines of the markets cannot be bypassed. If you give everyone more money without a balancing increase in the supply of goods, there is no surer way of stimulating price inflation, collapsing a currency’s purchasing power and losing all control of interest rates.

The underlying error is to fail to understand that economising individuals make things in order to be able to buy things. That is the order of events, earn it first and spend it second. No amount of monetary shenanigans can change this basic fact. Instead, expanding the quantity of money will always end up devaluing the wealth and earning-power of ordinary people, the same people that are being encouraged to spend, and destroying genuine economic activity in the process.

This is the reason monetary stimulation never works, except for a short period if and when the public are fooled by the process. Businesses – owned and managed by ordinary people – are not fooled by it any more: they are buying in their equity instead of investing in new production because they know that investing in production doesn’t earn a return. This is the logical response by businesses to the destruction of their customers’ wealth through currency debasement.

Let me sum up currency debasement with an aphorism:

“You print some money to rob the wealth of ordinary people to give to the banks to lend to business to make their products for customers to buy with money devalued by printing.”

It is as ridiculous a circular proposition as perpetual motion, yet central banks never seem to question it. Monetary stimulus fails with every credit cycle when the destruction of wealth is exposed by rising prices. But in this credit cycle the deception was so obvious to the general public that it failed from the outset.

The last five years have seen all beliefs in the manageability of aggregate demand comprehensively demolished by experience. The unfortunate result of this failure is that central bankers now see no alternative to maintaining things as they are, because the financial system has become horribly over-geared and probably wouldn’t survive the rise in interest rates a genuine economic recovery entails anyway. Price inflation would almost certainly rise well above the 2% target forcing central banks to raise interest rates, throwing bonds and stocks into a severe bear market, and imperilling government finances. The financial system is simply too highly geared to survive a credit-driven recovery.

Japan, which has accelerated monetary debasement of the yen at an unprecedented rate, finds itself in this trap. If anything, the pace of its economic deterioration is increasing. The explanation is simple and confirms the obvious: monetary debasement impoverishes ordinary people. Far from boosting the economy it is rapidly driving us into a global slump.

The solution is not higher wages.

Economics

Yield curve and the US economy

So far in August the differential between the yield on the 10-year Treasury note and the yield on the 3-month Treasury bill stood at 2.38% against 2.95% in December 2013.

Historically the yield differential on average has led the yearly rate of growth of industrial production by fourteen months. This raises the likelihood that the growth momentum of industrial production will ease in the months ahead, all other things being equal.

 

Yield Spread

It is generally held that the shape of the yield curve is set by investors’ expectations. According to this way of thinking – also labeled as the expectation theory (ET) – the key to the shape of the yield curve is the notion that long-term interest rates are the average of expected future short-term rates.

If today’s one-year rate is 4% and next year’s one-year rate is expected to be 5%, the two-year rate today should be (4%+5%)/2 = 4.5%.

It follows that expectations for increases in short-term rates will make the yield curve upward sloping, since long-term rates will be higher than short-term rates.

Conversely, expectations for a decline in short-term rates will result in a downward sloping yield curve. If today’s one-year rate is 5% and next year’s one – year rate is expected to be 4%, the two-year rate today (4%+5%)/2 = 4.5% is lower than today’s one year rate of 5% – i.e. downward sloping yield curve.

But is it possible to have a sustained downward sloping yield curve on account of expectations? One can show that in a risk-free environment, neither an upward nor a downward sloping yield curve can be sustainable.

An upward sloping curve would provoke an arbitrage movement from short maturities to long maturities. This will lift short-term interest rates and lower long-term interest rates, i.e., leading towards a uniform interest rate throughout the term structure.

Arbitrage will also prevent the sustainability of an inverted yield curve by shifting funds from long maturities to short maturities thereby flattening the curve.

It must be appreciated that in a free unhampered market economy the tendency towards the uniformity of rates will only take place on a risk-adjusted basis. Consequently, a yield curve that includes the risk factor is likely to have a gentle positive slope.

It is difficult to envisage a downward sloping curve in a free unhampered market economy – since this would imply that investors are assigning a higher risk to short-term maturities than long-term maturities, which doesn’t make sense.

 

The Fed and the shape of the yield curve

Even if one were to accept the rationale of the ET for the changes in the shape of the yield curve, these changes are likely to be of a very short duration on account of arbitrage. Individuals will always try to make money regardless of the state of the economy.

Yet historically either an upward sloping or a downward sloping yield curve has held for quite prolonged periods of time.

We suggest an upward or a downward sloping yield curve develops on account of the Fed’s interest rate policies (there is an inverse correlation between the yield curve and the fed funds rate).

While the Fed can exercise a certain level of control over short-term interest rates via the federal funds rate, it has less control over long-term interest rates.

FedFundsVsYield

For instance, the artificial lowering of short-term interest rates gives rise to an upward sloping yield curve. To prevent the flattening of the curve the Fed must persist with the easy interest rate stance. Should the Fed slow down on its monetary pumping the shape of the yield curve will tend to flatten. Whenever the Fed tightens its interest rate stance this leads to the flattening or an inversion of the yield curve. In order to sustain the new shape of the curve the Fed must maintain its tighter stance. Should the Fed abandon the tighter stance the tendency for rates equalisation will arrest the narrowing or the inversion in the yield curve.

The shape of the yield curve reflects the monetary stance of the Fed. Investors’ expectations can only reinforce the shape of the curve. For instance, relentless monetary expansion that keeps the upward slope of the curve intact ultimately fuels inflationary expectations, which tend to push long-term rates higher thereby reinforcing the positive slope of the yield curve.

Conversely, an emerging recession on account of a tighter stance lowers inflationary expectations and reinforces the inverted yield curve.

A loose Fed monetary policy i.e. a positive sloping curve, sets in motion a false economic boom – it gives rise to various false activities. A tighter monetary policy, which manifests through an inversion of the yield curve, sets in motion the process of the liquidation of false activities i.e. an economic bust is ensued.

A situation could emerge however where the federal funds rate is around zero, as it is now, and then the shape of the yield curve will vary in response to the fluctuations in the long-term rate. (The fed funds rate has been around zero since December 2008).

Once the Fed keeps the fed funds rate at close to zero level over a prolonged period of time it sets in motion a severe misallocation of resources – a severe consumption of capital.

An emergence of subdued economic activity puts downward pressure on long-term rates. On the basis of a near zero fed funds rate this starts to invert the shape of the yield curve.

At present, we hold the downward slopping yield curve has emerged on account of a decline in long term rates whilst short-term interest rate policy remains intact.

We suggest this may be indicative of a severe weakening in the wealth generation process and points to stagnant economic growth ahead.

Note again the downward sloping curve is on account of the Fed’s near zero interest rate policy that has weakened the process of wealth formation.

Economics

Did “The Nixon Shock” Lead to Nixon’s Resignation?

This month we observe the 40th anniversary of the resignation, under threat of imminent impeachment, of President Richard M. Nixon. Nixon aide and loyalist Pat Buchanan sums up, in a column in USA Today Liberal Elites Toppled Nixon his view:

“Richard Nixon was not brought down by any popular uprising. The breaking of his presidency was a product of the malice and collusion of liberal elites who had been repudiated in Nixon’s 49-state landslide in 1972.”

Nixon, as it happens, was not 1974’s only casualty. As William Safire recalls, Nixon’s secretary of the treasury, John Connally, “was indicted for taking graft on the same day the President was charged by the House Judiciary Committee for abuse of power.”

Both men were instrumental in the repudiation of the Bretton Woods gold-dollar monetary system that had undergirded post-war American (and world prosperity). Bretton Woods, indeed, was coming apart (as a gold+paper pastiche standard inevitably is prone to do). A gold-based international monetary order called out, however, to be mended not ended. Nixon ended it.

The House Judiciary Committee’s charges and the Connally indictment uncannily fulfill a prophecy by Tom Paine. Paine’s Common Sense triggered the American Revolution. Paine later wrote a tract, Dissertations On Government; The Affairs of the Bank; and Paper Money in 1786. It was issued the year before the Constitutional Convention that would send the confederated former colonies into the epic called the United States of America. It was, in part, a perfect diatribe against paper-based (rather than gold or silver defined) money.

Paine observed:

But the evils of paper money have no end. Its uncertain and fluctuating value is continually awakening or creating new schemes of deceit. Every principle of justice is put to the rack, and the bond of society dissolved: the suppression, therefore; of paper money might very properly have been put into the act for preventing vice and immorality.

As to the assumed authority of any assembly in making paper money, or paper of any kind, a legal tender, or in other language, a compulsive payment, it is a most presumptuous attempt at arbitrary power. There can be no such power in a republican government: the people have no freedom, and property no security where this practice can be acted: and the committee who shall bring in a report for this purpose, or the member who moves for it, and he who seconds it merits impeachment, and sooner or later may expect it.

Of all the various sorts of base coin, paper money is the basest. It has the least intrinsic value of anything that can be put in the place of gold and silver. A hobnail or a piece of wampum far exceeds it. And there would be more propriety in making those articles a legal tender than to make paper so.

The laws of a country ought to be the standard of equity, and calculated to impress on the minds of the people the moral as well as the legal obligations of reciprocal justice. But tender laws, of any kind, operate to destroy morality, and to dissolve, by the pretense of law, what ought to be the principle of law to support, reciprocal justice between man and man: and the punishment of a member who should move for such a law ought to be death.

The death penalty for proposing paper money? Paine called for the criminal indictment as a capital crime, and for impeachment, of any who even would call for tender laws.

Connally was acquitted on the charges of graft and perjury. Later he underwent bankruptcy before dying in semi-disgrace. Nixon resigned rather than undergoing impeachment, also living out his life in disgraced political exile. The spirit of Paine’s declaration was fulfilled in both cases. Connally and Nixon engineered this violation, abandoning the good, precious-metal, money contemplated by the Constitution. Nemesis followed hubris.

The closing of the “gold window” was based, by Connolly, on deeply wrong premises. It was sold to the public, by Nixon, on deeply false promises.

On August 15, 1971 President Nixon came before the American people to announce:

We must protect the position of the American dollar as a pillar of monetary stability around the world.

In the past 7 years, there has been an average of one international monetary crisis every year. Now who gains from these crises? Not the workingman; not the investor; not the real producers of wealth. The gainers are the international money speculators. Because they thrive on crises, they help to create them.

In recent weeks, the speculators have been waging an all-out war on the American dollar. The strength of a nation’s currency is based on the strength of that nation’s economy–and the American economy is by far the strongest in the world. Accordingly, I have directed the Secretary of the Treasury to take the action necessary to defend the dollar against the speculators.

I have directed Secretary Connally to suspend temporarily the convertibility of the dollar into gold or other reserve assets, except in amounts and conditions determined to be in the interest of monetary stability and in the best interests of the United States.

Now, what is this action–which is very technical–what does it mean for you?

Let me lay to rest the bugaboo of what is called devaluation.

If you want to buy a foreign car or take a trip abroad, market conditions may cause your dollar to buy slightly less. But if you are among the overwhelming majority of Americans who buy American-made products in America, your dollar will be worth just as much tomorrow as it is today.

The effect of this action, in other words, will be to stabilize the dollar.

Now, this action will not win us any friends among the international money traders. But our primary concern is with the American workers, and with fair competition around the world.

To our friends abroad, including the many responsible members of the international banking community who are dedicated to stability and the flow of trade, I give this assurance: The United States has always been, and will continue to be, a forward-looking and trustworthy trading partner. In full cooperation with the International Monetary Fund and those who trade with us, we will press for the necessary reforms to set up an urgently needed new international monetary system. Stability and equal treatment is in everybody’s best interest. I am determined that the American dollar must never again be a hostage in the hands of international speculators.

Nixon’s promise that “your dollar will be worth just as much tomorrow as it is today” has, of course, completely falsified. The 2014 dollar is worth only 15 cents in 1971 terms, buying 85% less than it did in 1971. Some bugaboo. All of Nixon’s other rationalizations for going off gold also have been falsified.

The closing of the gold window turned out to be the slamming of the golden door to social mobility and equitable prosperity. In the wake of the closing of the gold window median family income stagnated, never again experiencing secular recovery. Meanwhile the income of the wealthy has continued apace. This has produced the very income inequality so loudly denounced by progressives who, ironically, are the last defenders of the very policy which is the probable cause of our inequitable prosperity.

Brother Pat Buchanan states that Nixon

…ended the Vietnam War with honor, brought all our troops and POWs home, opened up China, negotiated historic arms agreements with Moscow, ended the draft, desegregated southern schools, enacted the 18-year-old vote, created the EPA, OSHA and National Cancer Institute, and was rewarded by a grateful nation with a 61% landslide.

Even as Watergate broke, he ordered the airlift that saved Israel in the Yom Kippur War, for which Golda Meir called him the best friend Israel ever had.

His enemies were beside themselves with rage and resentment.

Buchanan, while admirably loyal, ignores the correlation between Nixon’s embrace of paper money and Paine’s prophetic call for impeachment for that high crime. Let us now, in this month of the 40th anniversary of Nixon’s resignation and the 43rd of his abandonment of the gold standard, pause to wonder. It is bewildering circumstance that the very liberal elites Buchanan indicts as malicious in their treatment of Nixon today represent the most reactionary of defenders of the most pernicious, and only enduring, residue of the Nixon Shock: paper money, “a most presumptuous attempt at arbitrary power.”

Originating at http://www.forbes.com/sites/ralphbenko/2014/08/18/pat-buchanan-ignores-the-underlying-reason-richard-nixon-was-forced-to-resign/

Economics

Signs Of The Fed’s Era Of Secrecy Coming To An End

The Federal Reserve increasingly is attracting scrutiny across the board.  Now add to that a roller coaster of a thriller, using a miracle of a rare device, shining a light into the operations of the Fed — that contemporary riddle wrapped in a mystery inside an enigma: Matthew Quirk’s latest novel, The Directive.

“If I’ve made myself too clear, you must have misunderstood me,” Fed Chairman Alan Greenspan once famously said.  The era of a mystagogue Fed may be ending.  Recently, the House Government Oversight Committee passed, and referred to the full House, theFederal Reserve Transparency Act of 2014.  This legislation is part of the legacy of the great former Representative Ron Paul.  It popularly is known as “Audit the Fed.” How ironic that a mystery novel proves a device to dispel some of the Fed’s obscurantist mystery.

Novelist/reporter Matthew Quirk’s The Directive does for he Fed what Alan Drury did for Senate intrigue with his Pulitzer Prize winning Advise and Consent, what Aaron Sorkin did for the White House in The West Wing and, now, what Beau Willimon, is doing for the Congress with House of Cards.  Quirk takes the genre of political thriller into virgin territory: the Fed. Make to mistake.  Engaging the popular imagination has political potency.  As Victor Hugo, nicely paraphrased, observed: Nothing is as powerful as an idea whose time has come.

Quirk, according to his website,“studied history and literature at Harvard College. After graduation, he spent five years at The Atlantic reporting on crimes, private military contractors, the opium trade, terrorism prosecutions, and international gangs.”  His background shows. Quirk’s writings drips with the kind of eye for the telling detail that only a canny reporter, detective, or spy possesses.  (Readers will learn, just in passing, the plausible identity of the mysterious “secure undisclosed location” where the vice president was secreted following 9/11.)

If you like Ludlum you are certain to like Quirk.  And who isn’t intrigued by such a mysteriously powerful entity as the Fed?  Booklist calls The Directive a “nonstop heart-pounding ride in which moral blacks and whites turn gray in the ‘efficient alignment of power and interests’ that is big time politics.”  Amen.

The Directive describes an effort to rob the biggest bank in the world.  The object of the heist is not the tons of gold secured in the basement of 33 Liberty Street. (As Ian Fleming pointed out, in Goldfinger it logistically is impossible to move the mass of so much gold quickly enough to effect a robbery.)  Rather, Quirk uses as his literary device, with a touch of dramatic license, the interception of the Federal Open Market Committee’s directive to the trading desk of the Federal Reserve Bank of New York to raise (or lower) interest rates in order to use that insider information to make a fast killing.

Lest anyone doubt the power of such insider information consider William Safire’s report, from his White House classic memoir Before the Fall, of the weekend at Camp David before Nixon “closed the gold window.”

After the Quadriad meeting, the President remained alone while the rest of the group dined at the Laurel Cabin.   The no-phone-calls edict was still in force, raising some eyebrows of men who had shown themselves to be trustworthy repositories of events. but the 6’8″, dour Treasury Under Secretary Volcker explained a different dimension to the need for no leaks:  “Fortunes could be made with this information.”  Haldeman, mock-serious, leaned forward and whispered loudly, “Exactly how?”  The tension broken, Volcker asked Schulz, “How much is your budget deficit?”  George estimated, “Oh, twenty three billion or so — why?”  Volcker looked dreamily at the ceiling.  “Give me a billion dollars and a free hand on Monday, and I could make up that deficit in the money markets.”

Safire provides context making Volcker’s integrity indisputable lest anyone be tempted to misinterpret this as a trial balloon.

This columnist has been inside the headquarters of the Fed, including, many years ago, the boardroom.  Quirk:

Every eight weeks or so, a committee gathers near the National Mall in a marble citadel known as the Board of Governors of the Federal Reserve.  Twenty-five men and women sit at a long wooden table with an inset of black stone shined to a high gloss.  By noon they decide the fate of the American economy.

This columnist never has stepped foot inside the Federal Reserve Bank of New York, much less its trading floor(s).  Few have entered that sanctum sanctorum.  By taking his readers inside Quirk provides his readers a narrative grasp to how the Fed does what it does.

Quirk:

[T]he Fed is by design very friendly to large New York banks.  When the committee in DC decides what interest rates should be, they can’t simply dictate them to the banks.  They decide on a target interest, and then send the directive to the trading desk at the New York Fed to instruct them about how to achieve it.  The traders upstairs go into the markets and wheel and deal with the big banks, buying and selling Treasury bills and other government debts, essentially IOUs from Uncle Sam.  When the Fed buys up a lot of those IOUs, they flood the economy with money; when they sell them, they take money out of circulation.

They are effectively creating and destroying cash.  By shrinking or expanding the supply of money in the global economy, making it more or less scarce, they also make it more or less expensive to borrow; the interest rate.  In this way, trading back and forth with the largest banks in the world, they can drive interest rates toward their target.

The amount of actual physical currency in circulation is only a quarter of the total monetary supply.  The rest is just numbers on a computer somewhere.  When people say the government can print as much money as it wants, they’re really talking about the desk doing its daily work of resizing the monetary supply—tacking zeros onto a bunch of electronic accounts—that big banks are allowed to lend out to you and me.

***

Every morning, on the ninth floor of the New York Fed, the desk gets ready to go out and manipulate the markets according to the instructions laid out in the directive.  Its traders are linked by computer with twenty-one of the largest banks in the world.  When they’re ready to buy and sell, in what are called open market operation, one trader presses a button on his terminal and three chimes — the notes F-E-D — sound on the terminals of his counterparties.  Then they’re off to the races.

There are usually eight to ten people on that desk, mostly guys in their late twenties and early thirties, and they manage a portfolio of government securities worth nearly $4 trillion that backs our currency.  Without it, the bills in your wallet would be as worthless as Monopoly cash.  The traders on that floor carry out nearly $5.5 billion in trades per day, set the value of every penny you earn or spend, and steer the global economy.

As Quirk recently told Matthew Yglesias, at Vox.com:

I was casting about for the biggest hoards of money in the world, and you get to the Federal Reserve Bank in New York fairly quickly. But that’s been done. Then I learned more and more about the trading desk, and my mind was blown.

You get to have this great line where you say, “There’s $300 billion worth of gold in the basement, but the real money is on the ninth floor.” …

I was a reporter in Washington for a while, and I thought, “Oh, the Fed sets interest rates,” because that’s always what people say. But as you dig into it, you realize that the Fed just has to induce interest rates to where they want to be. They have to trade back and forth with these 19 or 20 banks, and they have 8‑10 guys at this trading desk, trading about $5.5 billion a day. That’s actually how the government prints money and expands and contracts the monetary supply.

It’s this high wire act. You explain it to people and they say, “Oh, it’s a conspiracy thriller.” You say, “No, no. That’s the real part. I haven’t gotten to the conspiracy yet.” But it’s a miracle that it works.

Quirk’s own dual mandate? Combine fast-paced drama with a peek behind the scenes of the world’s biggest bank, providing vivid entertainment while teaching more about the way that one of the most powerful and mysterious institutions in the world works. In The Directive Matthew Quirk shakes, rather than stirs, his readers brilliantly.

Originating at Forbes.com: http://www.forbes.com/sites/ralphbenko/2014/08/04/signs-of-the-feds-era-of-secrecy-coming-to-an-end/