Monday, April 25, 2011

The Biggest Show On Earth Is Coming to Town

Got your agenda marked? The Federal Reserve Board meets this week, and for the first time Chairman Ben Bernanke has decided to face the public immediately afterward in an effort to increase transparency.

[Thanks to Circus Contraption, at for the photo.]

Bernanke will be giving his first real press conference on Wednesday, April 27, 2011, at 2:15 p.m. EDT.

This particular Fed meeting is crucial, because on June 30, 2011, the Fed is planning to end its second round of quantitative easing (Fed purchases of treasury bonds). Through this program they are currently purchasing up to 85 percent of the bonds issued by the U.S. Treasury since November 2010. What will the Fed do next, stop altogether or phase the program out? Future Fed actions are based on current statistics, and the Board might do either, or they might just decide to continue easing a bit longer if the numbers so indicate.

The consensus seems to be that the Fed will stop their purchases but continue trying to hold down interest rates in other ways. However, a consensus does not a crystal ball make.

Bernanke is probably hoping he doesn't gaff and send the world's markets into fits of dyspepsia. The slightest misplaced word, sudden bead of sweat, or uncontrolled twitch of Ben's brow could add an unknown dimension of insecurity to his studied words. Will the end of QE2 cause bonds to fall into a tail spin? Will it turn the recent stock market recovery into a bursting bubble? Will it cause a flight from the dollar? Will a misplaced comma or tremble of the voice start World Recession III?

The other possibility is that the markets see the end of QE2 as they did QE1, i.e. as business as usual. The slight retraction of liquidity could simply displace a sum of money from the stock market to the assumed security of the bond market, without necessarily causing significant disruption in either. Two very prominent U.S. bond dealers are debating this very issue as I write. (See Gross versus Rieder at this Wall Street Journal article.)

My slow-motion movie on "The Economic Crisis of 2008" is unfolding even slower than I thought it would. We've had to wait three years for the denouement even to approach the horizon, but I think it's finally coming.

The next months will be fascinating. Not only do we have the QE2 situation, but we also have much to learn about the upcoming federal budget and debt ceiling, about the candidates for the 2012 election, about the future of the U.S. dollar's hegemony over other fiat currencies, and about the world's opinion of the safety of U.S. treasury instruments as a secure store of value. Any unexpected disruptions in the latter could throw a hard ball to all the Modern Portfolio Theorists, as real life tends to do.

Some even think there's the possibility that America's heyday is coming to an end, just as England's did at the turn of the last century. (See the article at Marketwatch.) I don't believe this quite yet, and I refuse to until I see the results of the latest silent-majority push towards smaller government. If it fails in 2012, i.e. if Obama passes again and both Congress and the Senate weaken in resolve and/or shift towards the left (whether it be Republicans or Democrats), then maybe we should start to worry.

While all this is going on, what can one do with one's money? I'm not an investment advisor, and I'm just as frustrated as the next person with 0.05 percent interest. When people remark that I have been right about gold until now and then ask whether they should get into it at this point, I still must respond that I just can't predict what gold will do in the next year. I do permit myself to say that it looks like we're headed for one of two scenarios:

1. 1970s-style price inflation with a significant rise in gold, and then the subsequent obligatory tightening a-la-Volcker with its healthy contractionary forces (not so much a recession as a readjustment of the previous misalignments of money flows), accompanied by a subsiding of the gold price to a more stable level; or

2. A Japanese-style twenty years or more of stagnation, with prices and GDP remaining relatively tame, held in check by the squeezing of the ordinary wage earner through a bad employment market, caused in turn by political dithering of the kind we saw in the 1990s when Gingrich and the Republicans lost their mojo.

I'll be heating up the popcorn come Wednesday.

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