The Financial Crisis Caused by the Inept Federal Reserve Policy and its Solutions
The credit crisis caused by inept Federal Reserve monetary policy and its solution An open letter to the President Elect, Obama, from his half-brother I know that your "best minds" are working on the financial crisis but may I suggest that maybe they are not seeing reality clearly and thus that the solutions that have been implemented and are currently suggested will not fix the problem without huge additional unnecessary damage to the economy.
The following are the priorities of the solutions in descending order in terms of both timing and importance.
1)The Discount Rate must be dropped .
5% from the current 1.
25% to .
75% in the December '08 meeting and the following month dropped by another 0.
25% and the following month by another .
25% to get to .
25% discount rate and Fed Funds target rate of 0%, by February 09.
(And not in six months by which time the Fed will be forced to get to anyway, which will be too little too late.
) There is a need to change the strategy of the Federal Reserve Board because it is they who caused the liquidity crisis.
Their strategy during this past year and a half has been to be "data dependent.
" Knowing that the effects of any monetary policy action have somewhere between 6 months to a year to have their "fact based impact" on the economy, a "fact dependent policy" is a policy that is 6-12 months behind the curve.
As a result of that approach to the decision making process of the Federal Reserve Board, the Fed has indeed done all the "right" things other than being 6-12 months off in terms of timing.
Given that very poor timing, the market was deprived of the liquidity necessary by about 10 trillion dollars that have "gone up in smoke" because of the Fed's profound misunderstanding of the events that were coming into the horizon.
The $10 trillion lost was the $10 trillion that the, when push comes to shove, dollar denominated global economy had grown by, during this past year and a half while the Fed provided no additional liquidity for it by keeping M1 practically flat during that period.
Thus it was inevitable that the global assets would deflate by 10 trillion dollars (being off by a trillion here and there.
) The global market crash was a completely predictable result that is directly and most precisely attributable to the "blindness;" the inability to forecast anywhere close to adequately by the Fed.
The change in strategy of the Fed must be to act not upon what happened already (facts) but what is expected to happen in the next 6 to 12 months.
If not, it will be the Fed that instead of stabilizing the markets and maintaining price stability is causing increased price instability.
It is understandable however why the Fed got so blind sighted; it got not just the usual in life one two punch, it got a 1-2-3-4 punch and averting these requires real pros that have true visibility into the future not just academics or financiers or politicians that are lost in the details of the minor numbers.
I will not go into the details of this 1-2-3-4 punch, because I want to focus on solutions, other than to describe them: 1 was and is the disinflation (and large net loss of US domestic jobs) to the tune of $300 billion annually coming from China; 2 the predictable and predicted by several, deflation that was and is happening in the housing market; 3.
the inflation of about $300 billion annually coming from OPEC (which was perceived as the bigger problem but wasn't); and 4 the opportunity that the "shorts" found on betting that the Fed and the SEC were clueless and that the above three will eventually catch up so they made them catch up, fast, at a huge profit for the top 1% that each still have over $10million in net assets, relative to all the rest who are still wondering how they lost half their ass.
That $10 trillion is not really lost it has become a great potential opportunity for this 1% who have their money in short selling hedge funds (who are being advised as to where the potential shorts are by none other than our previous Fed Chairman) and parked in T-Bills, to quickly double their money at the expense of all others as they pick and choose globally who hurts most and is thus willing to provide them with the highest return, because in fact they are the only one's with the huge amounts of cash, parked, and thus crashing the multiplier too.
Because the current Fed and the SEC have remained clueless as to the real causes of what happened to them: 2)The Fed Chairman and the SEC Chairman must be replaced (in the case of the Fed Chairman begged to resign and go teach, which I'm sure he is excellent at, rather than do) and even the self-admitted sincerely insincere clown on TV, Cramer would do a much better job in either of these jobs.
Unless they show that they finally got it and have clarity about what they do and don't do and its impact.
3)Otherwise I will have to be spelling out details such as when the stock market which is a leading indicator by 6-12 months, starts turning to a bull market reaching about the DOW 10,000 level, will be the time to start raising interest rates from the 0, by .
25% monthly and not waiting for inflation to start showing up in the numbers because it will be too big by the time it shows up.
Until then the M1 should be increased not by 13% as it finally is currently, but by 20% from it's previous (last year's) level because that is how much more demand for real goods and services exists, if it were not for the Fed caused liquidity and credit crisis.
The reversal of this must also happen way before the numbers show inflation.
4) I do not know whether the responsibility for changing the reserve requirements for Banks is upon the SEC, the Federal Reserve, the FDIC or with Congress and I'm not sure they know either.
This reserve requirement has been and is at about 10%, and was foolishly not increased when it was apparent that the economy was getting over-leveraged.
Now that everyone is excessively de-leveraging it must be reduced to 9% for a little while.
The Chinese have been doing this and have thus been a lot more effective in averting as massive a credit crisis as it occurred in the US and the other democracies.
This small loosening of reserve requirements, without any serious increased risk (in fact while reducing the risks of Banks defaulting) or any cost to the banks or the tax payer will increase the capital available to Banks to lend by about $150 billion, instantly, and will unclog the currently stuck multiplier effect.
5)The other programs such as clearing houses and guarantees or purchases on CDO's and reductions of long term mortgage rates by the Fed buying Fannie May paper, and the Commercial paper program, College loans program, the reduction of home foreclosures TARP, and the automotive industry bailout with clear conditions for all stakeholder compromises necessary to achieve the sustainable industry and energy efficiency goals and a Trustee, that will hopefully come out of Congress soon (I think they did get that part) must also proceed fast.
6)The SEC must re-instate the up-tick rule on shorts along with closing the loopholes around it and the Banks and Brokerage institutions must increase their lending fees to hedge funds and must be required to increase significantly the transaction costs for shorting, by over 2%.
Also the 20% or so carried interest in all partnerships but particularly of hedge funds must be treated not as capital gain but as ordinary income to the General Partners, because it is income for services rendered.
Shorting has some value but it is insane to treat it in par with (long) investing in a company, unless one is so screwed up as to consider that balance means putting as much value in destroying as in creating.
Mark to market is a fine long term rule to maintain but the flexibility must be given to the 7 major financial institutions, temporarily only during this crisis, to mark to "expected market" because they can "make" the market,(by not foreclosing as much; and have them each disclose the markets the expect to make and their assumptions.
) Unless these actions are taken now by the Fed and the SEC this recession can take one more year and an additional five or so trillion $ of losses, and indeed become the most severe recession since the great depression, mostly to be born by much of the middle class joining the poor.
If the above actions are taken now, this recession can end by Q2 of 2009, with no additional damage.
7)Beyond the monetary policy and regulatory changes as above there is probably a need of a $500-800 billion or so fiscal stimulus package over two years focused on the creation of new jobs primarily in the green energy (including nuclear) sector and the infrastructure construction sectors and on encryption technology sectors that relate to national security and on information technology for medical records and best practices that will reduce long term health care costs.
(Tort reform, with punitive damages going to the State and not the plaintiffs or their attorneys, will also be necessary to adequately reduce health care costs.
) Given that this crisis is a crisis mostly of confidence, this recession is most likely to be over by Q3 2009, by whatever Obama does that is not too crazy, simply because of the confidence people will have in him.
Yet, a much bigger crisis is waiting on the horizon with a new 1-2-3-4 punch, I guess after 3.
5 or 7 years of relative prosperity and peace, if really real and positive sustainable change does not happen.
The first 1-2 punch will be coming again from dictatorships and causing the next economic crisis, most probably a depression more severe than the great depression.
8)To allow the above sectors and the manufacturing sectors to develop with domestic or at least within other democracies, and not in dictatorships, a trade tariff reduction treaty must be quickly signed by and for within the US, EU, Japan and Brazil with adding India subsequently, other democracies and if Russia continues democratizing adding Russia also.
Soon, very soon, after the trade reduction Treaties among these democracies are signed, increased tariffs for OPEC oil by at least 20% initially must be imposed (that is needed to provide a floor and to cut the tops off energy prices thus allowing better predictability of oil prices and thus better chance for alternative and domestic energy sources to sustain ably develop).
Also either a 30% Yuan/dollar conversion tax or 30% initially import taxes for goods from China must be imposed, until China's market becomes as open and as non-intellectual property infringing and not by other laws restrictive (such as JV requirements), and with less currency manipulation by not having a freely traded currency, as the US.
(The impact from those tariffs is not inflationary because alternative just, or almost just, as cost effective sources can be developed within democracies.
) Democracies are losing a real economic war that underlies much of the crisis, caused by fundamentally and profoundly different political systems.
Democracies are in a serious recession while the dictatorships led by China and by OPEC are growing nicely.
Fears that they may grow only 5% or so and thus cause political instability within them are fears of assholes because that instability is the chance of their people for democracy.
That instability caused by low growth rates is the only way they may democratize and it is not a risk, but an opportunity for anyone that is not a fascist or communist asshole and is unwilling to limit the freedoms of free people by selling out to tyrants and making us more dependent on them.
There is no price enough to trade any dependence and any loss of our liberty to any dictator.
Political engagement with the dictators of China and of OPEC nations must not just be maintained but increased, yet that should in no way mean that the economies of democracies must get decimated, by a combined net burden from these two forces of tyranny of about $1 trillion a year, which is surely unsustainable and will cause a depression within all democracies.
We must keep talking with these tyrants and working together with even greater engagement on other issues of common interest, such as terrorism and nuclear non proliferation, the environment and non-politicized human rights, and on humanitarian, cross cultural and educational issues as well as for ping-pong and Camel races, without having to let America and other democracies go bankrupt to keep the "co-operation" of the tyrants.
Obama premised his whole election not upon him having all the solutions, nor on appointing the same old "big names" under him but on looking for and listening to solutions that come from the bottom-up.
I am at the bottom by choice, and no one would claim it if it wasn't true as all are aspiring to be at the top, and mine are real bottoms-up solutions.
I hope Obama has people looking for and bringing to his attention this and other writings like this or else he have missed already not only the main premise of his election but also the main premise of democracy.
The following are the priorities of the solutions in descending order in terms of both timing and importance.
1)The Discount Rate must be dropped .
5% from the current 1.
25% to .
75% in the December '08 meeting and the following month dropped by another 0.
25% and the following month by another .
25% to get to .
25% discount rate and Fed Funds target rate of 0%, by February 09.
(And not in six months by which time the Fed will be forced to get to anyway, which will be too little too late.
) There is a need to change the strategy of the Federal Reserve Board because it is they who caused the liquidity crisis.
Their strategy during this past year and a half has been to be "data dependent.
" Knowing that the effects of any monetary policy action have somewhere between 6 months to a year to have their "fact based impact" on the economy, a "fact dependent policy" is a policy that is 6-12 months behind the curve.
As a result of that approach to the decision making process of the Federal Reserve Board, the Fed has indeed done all the "right" things other than being 6-12 months off in terms of timing.
Given that very poor timing, the market was deprived of the liquidity necessary by about 10 trillion dollars that have "gone up in smoke" because of the Fed's profound misunderstanding of the events that were coming into the horizon.
The $10 trillion lost was the $10 trillion that the, when push comes to shove, dollar denominated global economy had grown by, during this past year and a half while the Fed provided no additional liquidity for it by keeping M1 practically flat during that period.
Thus it was inevitable that the global assets would deflate by 10 trillion dollars (being off by a trillion here and there.
) The global market crash was a completely predictable result that is directly and most precisely attributable to the "blindness;" the inability to forecast anywhere close to adequately by the Fed.
The change in strategy of the Fed must be to act not upon what happened already (facts) but what is expected to happen in the next 6 to 12 months.
If not, it will be the Fed that instead of stabilizing the markets and maintaining price stability is causing increased price instability.
It is understandable however why the Fed got so blind sighted; it got not just the usual in life one two punch, it got a 1-2-3-4 punch and averting these requires real pros that have true visibility into the future not just academics or financiers or politicians that are lost in the details of the minor numbers.
I will not go into the details of this 1-2-3-4 punch, because I want to focus on solutions, other than to describe them: 1 was and is the disinflation (and large net loss of US domestic jobs) to the tune of $300 billion annually coming from China; 2 the predictable and predicted by several, deflation that was and is happening in the housing market; 3.
the inflation of about $300 billion annually coming from OPEC (which was perceived as the bigger problem but wasn't); and 4 the opportunity that the "shorts" found on betting that the Fed and the SEC were clueless and that the above three will eventually catch up so they made them catch up, fast, at a huge profit for the top 1% that each still have over $10million in net assets, relative to all the rest who are still wondering how they lost half their ass.
That $10 trillion is not really lost it has become a great potential opportunity for this 1% who have their money in short selling hedge funds (who are being advised as to where the potential shorts are by none other than our previous Fed Chairman) and parked in T-Bills, to quickly double their money at the expense of all others as they pick and choose globally who hurts most and is thus willing to provide them with the highest return, because in fact they are the only one's with the huge amounts of cash, parked, and thus crashing the multiplier too.
Because the current Fed and the SEC have remained clueless as to the real causes of what happened to them: 2)The Fed Chairman and the SEC Chairman must be replaced (in the case of the Fed Chairman begged to resign and go teach, which I'm sure he is excellent at, rather than do) and even the self-admitted sincerely insincere clown on TV, Cramer would do a much better job in either of these jobs.
Unless they show that they finally got it and have clarity about what they do and don't do and its impact.
3)Otherwise I will have to be spelling out details such as when the stock market which is a leading indicator by 6-12 months, starts turning to a bull market reaching about the DOW 10,000 level, will be the time to start raising interest rates from the 0, by .
25% monthly and not waiting for inflation to start showing up in the numbers because it will be too big by the time it shows up.
Until then the M1 should be increased not by 13% as it finally is currently, but by 20% from it's previous (last year's) level because that is how much more demand for real goods and services exists, if it were not for the Fed caused liquidity and credit crisis.
The reversal of this must also happen way before the numbers show inflation.
4) I do not know whether the responsibility for changing the reserve requirements for Banks is upon the SEC, the Federal Reserve, the FDIC or with Congress and I'm not sure they know either.
This reserve requirement has been and is at about 10%, and was foolishly not increased when it was apparent that the economy was getting over-leveraged.
Now that everyone is excessively de-leveraging it must be reduced to 9% for a little while.
The Chinese have been doing this and have thus been a lot more effective in averting as massive a credit crisis as it occurred in the US and the other democracies.
This small loosening of reserve requirements, without any serious increased risk (in fact while reducing the risks of Banks defaulting) or any cost to the banks or the tax payer will increase the capital available to Banks to lend by about $150 billion, instantly, and will unclog the currently stuck multiplier effect.
5)The other programs such as clearing houses and guarantees or purchases on CDO's and reductions of long term mortgage rates by the Fed buying Fannie May paper, and the Commercial paper program, College loans program, the reduction of home foreclosures TARP, and the automotive industry bailout with clear conditions for all stakeholder compromises necessary to achieve the sustainable industry and energy efficiency goals and a Trustee, that will hopefully come out of Congress soon (I think they did get that part) must also proceed fast.
6)The SEC must re-instate the up-tick rule on shorts along with closing the loopholes around it and the Banks and Brokerage institutions must increase their lending fees to hedge funds and must be required to increase significantly the transaction costs for shorting, by over 2%.
Also the 20% or so carried interest in all partnerships but particularly of hedge funds must be treated not as capital gain but as ordinary income to the General Partners, because it is income for services rendered.
Shorting has some value but it is insane to treat it in par with (long) investing in a company, unless one is so screwed up as to consider that balance means putting as much value in destroying as in creating.
Mark to market is a fine long term rule to maintain but the flexibility must be given to the 7 major financial institutions, temporarily only during this crisis, to mark to "expected market" because they can "make" the market,(by not foreclosing as much; and have them each disclose the markets the expect to make and their assumptions.
) Unless these actions are taken now by the Fed and the SEC this recession can take one more year and an additional five or so trillion $ of losses, and indeed become the most severe recession since the great depression, mostly to be born by much of the middle class joining the poor.
If the above actions are taken now, this recession can end by Q2 of 2009, with no additional damage.
7)Beyond the monetary policy and regulatory changes as above there is probably a need of a $500-800 billion or so fiscal stimulus package over two years focused on the creation of new jobs primarily in the green energy (including nuclear) sector and the infrastructure construction sectors and on encryption technology sectors that relate to national security and on information technology for medical records and best practices that will reduce long term health care costs.
(Tort reform, with punitive damages going to the State and not the plaintiffs or their attorneys, will also be necessary to adequately reduce health care costs.
) Given that this crisis is a crisis mostly of confidence, this recession is most likely to be over by Q3 2009, by whatever Obama does that is not too crazy, simply because of the confidence people will have in him.
Yet, a much bigger crisis is waiting on the horizon with a new 1-2-3-4 punch, I guess after 3.
5 or 7 years of relative prosperity and peace, if really real and positive sustainable change does not happen.
The first 1-2 punch will be coming again from dictatorships and causing the next economic crisis, most probably a depression more severe than the great depression.
8)To allow the above sectors and the manufacturing sectors to develop with domestic or at least within other democracies, and not in dictatorships, a trade tariff reduction treaty must be quickly signed by and for within the US, EU, Japan and Brazil with adding India subsequently, other democracies and if Russia continues democratizing adding Russia also.
Soon, very soon, after the trade reduction Treaties among these democracies are signed, increased tariffs for OPEC oil by at least 20% initially must be imposed (that is needed to provide a floor and to cut the tops off energy prices thus allowing better predictability of oil prices and thus better chance for alternative and domestic energy sources to sustain ably develop).
Also either a 30% Yuan/dollar conversion tax or 30% initially import taxes for goods from China must be imposed, until China's market becomes as open and as non-intellectual property infringing and not by other laws restrictive (such as JV requirements), and with less currency manipulation by not having a freely traded currency, as the US.
(The impact from those tariffs is not inflationary because alternative just, or almost just, as cost effective sources can be developed within democracies.
) Democracies are losing a real economic war that underlies much of the crisis, caused by fundamentally and profoundly different political systems.
Democracies are in a serious recession while the dictatorships led by China and by OPEC are growing nicely.
Fears that they may grow only 5% or so and thus cause political instability within them are fears of assholes because that instability is the chance of their people for democracy.
That instability caused by low growth rates is the only way they may democratize and it is not a risk, but an opportunity for anyone that is not a fascist or communist asshole and is unwilling to limit the freedoms of free people by selling out to tyrants and making us more dependent on them.
There is no price enough to trade any dependence and any loss of our liberty to any dictator.
Political engagement with the dictators of China and of OPEC nations must not just be maintained but increased, yet that should in no way mean that the economies of democracies must get decimated, by a combined net burden from these two forces of tyranny of about $1 trillion a year, which is surely unsustainable and will cause a depression within all democracies.
We must keep talking with these tyrants and working together with even greater engagement on other issues of common interest, such as terrorism and nuclear non proliferation, the environment and non-politicized human rights, and on humanitarian, cross cultural and educational issues as well as for ping-pong and Camel races, without having to let America and other democracies go bankrupt to keep the "co-operation" of the tyrants.
Obama premised his whole election not upon him having all the solutions, nor on appointing the same old "big names" under him but on looking for and listening to solutions that come from the bottom-up.
I am at the bottom by choice, and no one would claim it if it wasn't true as all are aspiring to be at the top, and mine are real bottoms-up solutions.
I hope Obama has people looking for and bringing to his attention this and other writings like this or else he have missed already not only the main premise of his election but also the main premise of democracy.
Source...