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scepticus

Antal Fekete Says Fed Is An Engine Of Deflation

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http://professorfekete.com/articles%5CAEFFederalReserveAsAnEngineOfDeflation.pdf

"Although the Fed’s open market purchases of securities (always net) affect only

the short end of the yield curve directly, through the transmission of risk-free

bond speculation they will affect the rest of the yield curve indirectly. Thus the

entire spectrum of interest rates will keep falling in consequence of the Fed’s

open market purchases of Treasury bills (or equivalent). This is a powerful if

unrecognized force in the economy causing a chain-reaction as follows:

(1) risk-free bond speculation causes interest rates to fall,

(2) falling interest rates cause a severe erosion of capital throughout the

productive apparatus,

(3) erosion of capital causes a falling trend in prices,

(4) falling prices further increase the downward pressure on interest rates.

Thus a vicious spiral of falling interest rates and falling prices is engaged,

threatening to push the economy into the abyss of deflation. Mainstream

economics lacks a valid theory of speculation. Hence it has a blind spot, failing

to see the destructive nature of open market operations.

Typically, bond speculators carry on interest arbitrage along the entire (normal)

yield-curve. They sell the short maturity and buy the long, hoping to capture the

difference between the higher long rate and the lower short rate of interest

(borrowing short and lending long). This arbitrage is not risk-free per se as it has

the effect of flattening, and possibly inverting, the yield curve. As a result of

inversion it is turned from a rising curve into a falling one, while turning the

speculators’ profits into losses.

However, as a direct result of the open market operations of the Fed

(introduced clandestinely and illegally in the 1920’s through the conspiracy of

the US Treasury and the Fed, long before the practice was legalized ex post

facto in the 1930’s), interest arbitrage has been made risk-free. Astute bond

speculators with their long leg in the bond market can profitably mimic Fed

action in the bill market with their short leg. This never fails. Speculators know

that, sooner or later, the Fed has to answer nature’s call and will go to the bill

market as a buyer in order to replenish the money supply. This is their signal to

sell. On rare occasions the Fed would be a seller. This is their signal to buy.

This copycat action is an inexhaustible source of unearned profits for the

speculators. Thanks to the Fed’s open market purchases, they are always able to

replace their fast-maturing bills with fresh ones so as to maximize their bond/bill

spread. The more aggressive the Fed is in increasing the monetary base, the

wider the spread and the greater the bond speculators’ profits will be.

"

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http://professorfekete.com/articles%5CAEFFederalReserveAsAnEngineOfDeflation.pdf

"Although the Fed’s open market purchases of securities (always net) affect only

the short end of the yield curve directly, through the transmission of risk-free

bond speculation they will affect the rest of the yield curve indirectly. Thus the

entire spectrum of interest rates will keep falling in consequence of the Fed’s

open market purchases of Treasury bills (or equivalent). This is a powerful if

unrecognized force in the economy causing a chain-reaction as follows:

(1) risk-free bond speculation causes interest rates to fall,

(2) falling interest rates cause a severe erosion of capital throughout the

productive apparatus,

(3) erosion of capital causes a falling trend in prices,

(4) falling prices further increase the downward pressure on interest rates.

Thus a vicious spiral of falling interest rates and falling prices is engaged,

threatening to push the economy into the abyss of deflation. Mainstream

economics lacks a valid theory of speculation. Hence it has a blind spot, failing

to see the destructive nature of open market operations.

Typically, bond speculators carry on interest arbitrage along the entire (normal)

yield-curve. They sell the short maturity and buy the long, hoping to capture the

difference between the higher long rate and the lower short rate of interest

(borrowing short and lending long). This arbitrage is not risk-free per se as it has

the effect of flattening, and possibly inverting, the yield curve. As a result of

inversion it is turned from a rising curve into a falling one, while turning the

speculators’ profits into losses.

However, as a direct result of the open market operations of the Fed

(introduced clandestinely and illegally in the 1920’s through the conspiracy of

the US Treasury and the Fed, long before the practice was legalized ex post

facto in the 1930’s), interest arbitrage has been made risk-free. Astute bond

speculators with their long leg in the bond market can profitably mimic Fed

action in the bill market with their short leg. This never fails. Speculators know

that, sooner or later, the Fed has to answer nature’s call and will go to the bill

market as a buyer in order to replenish the money supply. This is their signal to

sell. On rare occasions the Fed would be a seller. This is their signal to buy.

This copycat action is an inexhaustible source of unearned profits for the

speculators. Thanks to the Fed’s open market purchases, they are always able to

replace their fast-maturing bills with fresh ones so as to maximize their bond/bill

spread. The more aggressive the Fed is in increasing the monetary base, the

wider the spread and the greater the bond speculators’ profits will be.

"

I have probably missed something. If the fed buys 10 year bonds. Say $100 worth.

Let's say there is a fractional reserve requirement of 10%, that creates $1000 dollars of cash in the economy.

the Money supply rises and so do prices.

higher inflation will make longer term bonds less attractive, which would mean as soon as the Fed stops buying bonds the price will fall significantly.

What am I missing here? - thanks

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I have probably missed something. If the fed buys 10 year bonds. Say $100 worth.

Let's say there is a fractional reserve requirement of 10%, that creates $1000 dollars of cash in the economy.

the Money supply rises and so do prices.

higher inflation will make longer term bonds less attractive, which would mean as soon as the Fed stops buying bonds the price will fall significantly.

What am I missing here? - thanks

people dont want to borrow the $900 dollars...

and the bonds were bought with cash that isnt lent in the first place.

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I have probably missed something. If the fed buys 10 year bonds. Say $100 worth.

Let's say there is a fractional reserve requirement of 10%, that creates $1000 dollars of cash in the economy.

the Money supply rises and so do prices.

higher inflation will make longer term bonds less attractive, which would mean as soon as the Fed stops buying bonds the price will fall significantly.

What am I missing here? - thanks

i think Antals point is

if someone was receiving 5% on their 100k and the fed artificially is able to reduce rates to 1% then that person is now receiving 1k on their capital as opposed to 5k and from a cash flow perspective their capital is worth less as it is generating a lower return thereby the FED are destroying capital by lowering interest rates

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I have probably missed something. If the fed buys 10 year bonds. Say $100 worth.

Let's say there is a fractional reserve requirement of 10%, that creates $1000 dollars of cash in the economy.

the Money supply rises and so do prices.

higher inflation will make longer term bonds less attractive, which would mean as soon as the Fed stops buying bonds the price will fall significantly.

What am I missing here? - thanks

the commercial banking system confers a velocity of about 12-14X upon base money. The velocity of gilts (and presumably US treasuries are the same or higher) is about 8. However that velocity of 8 actually supports more lending on top of that, so who knows how high the final velocity of govbond related circulation is. I would guess higher than 8 but somewhat less than 12.

That means government bonds are almost as money-like as base money. Base money is levered up by normal bank-consumer lending by commercial banks and gilts are levered up by the wholesale funding market and the shadow banknig sector.

I was trying to find a chart that would demonstrate government bond velocity (here velocity is simply, trading volume) rising strongly after the closure of the gold window and the establishment of electronic trading. Unfortunately I can't find any data prior to 1990.

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the commercial banking system confers a velocity of about 12-14X upon base money. The velocity of gilts (and presumably US treasuries are the same or higher) is about 8. However that velocity of 8 actually supports more lending on top of that, so who knows how high the final velocity of govbond related circulation is. I would guess higher than 8 but somewhat less than 12.

That means government bonds are almost as money-like as base money. Base money is levered up by normal bank-consumer lending by commercial banks and gilts are levered up by the wholesale funding market and the shadow banknig sector.

I was trying to find a chart that would demonstrate government bond velocity (here velocity is simply, trading volume) rising strongly after the closure of the gold window and the establishment of electronic trading. Unfortunately I can't find any data prior to 1990.

except no-one is borrowing to increase the money supply...thats one reason the FED needs to provide: courtesy the market ticker

debtbreakdown-all.serendipityThumb.png

post-10213-12808664413928_thumb.png

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people dont want to borrow the $900 dollars...

and the bonds were bought with cash that isnt lent in the first place.

your second point is that it is just new money created, so even if no one borrows, does the money supply still go up?

that no one borrows is fairly exceptional? or is it the banks not lending as happened in great depression and more recently

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your second point is that it is just new money created, so even if no one borrows, does the money supply still go up?

that no one borrows is fairly exceptional? or is it the banks not lending as happened in great depression and more recently

did you read the money illusion thread yet?

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i think Antals point is

if someone was receiving 5% on their 100k and the fed artificially is able to reduce rates to 1% then that person is now receiving 1k on their capital as opposed to 5k and from a cash flow perspective their capital is worth less as it is generating a lower return thereby the FED are destroying capital by lowering interest rates

So this must assume no bank lending?

if there is bank lending - this goes up as interest rates are lowered

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the commercial banking system confers a velocity of about 12-14X upon base money. The velocity of gilts (and presumably US treasuries are the same or higher) is about 8. However that velocity of 8 actually supports more lending on top of that, so who knows how high the final velocity of govbond related circulation is. I would guess higher than 8 but somewhat less than 12.

That means government bonds are almost as money-like as base money. Base money is levered up by normal bank-consumer lending by commercial banks and gilts are levered up by the wholesale funding market and the shadow banknig sector.

I was trying to find a chart that would demonstrate government bond velocity (here velocity is simply, trading volume) rising strongly after the closure of the gold window and the establishment of electronic trading. Unfortunately I can't find any data prior to 1990.

so government bonds are being fractionally reserved? so for each bond issued say at $100, you are saying a final circulation of $800? - how does that work?

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so government bonds are being fractionally reserved? so for each bond issued say at $100, you are saying a final circulation of $800? - how does that work?

please read the money illusion thread. It is explained there and I see no need to retype all that. If having read that you still have questions I will answer them

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so government bonds are being fractionally reserved? so for each bond issued say at $100, you are saying a final circulation of $800? - how does that work?

well, it would work, but, as you can see from the graph above, from the ticker forum, borrowing is reducing...therefore, a bank may have cash to lend, but people dont want it.

indeed, outstanding debt is being reduced...so the money multiplier is not working..

As for the Bond for cash deal, the government issued a bond...and receives cash from the buyer.....government spends the cash, but the buyer now has a bond...this is as good as cash but earns interest, whereas cash doesnt.

If the bank needs cash, it can either borrow using the bond as security, or sell the bond to another buyer, say your pension fund.

The BoE /FED can also "buy" the bond...It can do so either from funds accumulated, or by creating cash out of thin air. the books still balance as the bank has issued x IOUS (liability) and now has the bond ( asset). The government now pays interest to the Bank.

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well, it would work, but, as you can see from the graph above, from the ticker forum, borrowing is reducing...therefore, a bank may have cash to lend, but people dont want it.

indeed, outstanding debt is being reduced...so the money multiplier is not working..

sure, but the point about bonds as money in this thread and the money illusion thread is mainly to explain past HPI, and why our public debt is not what it says on the tin.

We'll get to the implications of this reality for future inflation and HPI in a bit, once we've all had a hcance to discuss the points presented so far.

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[facepalm]

if gov't bonds were really that much like base money, then there would be no point in the BoE creating hundreds of billions of pounds of base money (i.e. QE) to purchase gov't bonds!

difficult to spend a £1,000,000 bearer bond in Sainsburys.

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if gov't bonds were really that much like base money, then there would be no point in the BoE creating hundreds of billions of pounds of base money (i.e. QE) to purchase gov't bonds!

you haven't been keeping up. to busy eyeing your palm no doubt.

the monetisation of a bond simply recognises the fact the free market has already monetised it.

havnig said that, you are right - there is no point to QE - it won't work. But it won't create hyperinflation either.

Think about this next statement very carefully, if you can:

the notion of lending money to an insitution that has the ability to print that money for itself is an absolute nonsense, and the market recognised that long ago.

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difficult to spend a £1,000,000 bearer bond in Sainsburys.

don't be a twit. a 1M bearer bond does nicely for buying companies, storing sovereign wealth and speculating in commodities.

edit: spelling

Edited by scepticus

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don't be a twit. a 1M bearer bond does nicely for buying companies, storing sovereign wealth and speculating in commodities.

edit: spelling

Bloo is on your side here mate. Hes responding to international

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...

the monetisation of a bond simply recognises the fact the free market has already monetised it.

...

nope, it recognises that the gov't can't fund itself by its usual extortion methods (tax etc).

and the free market has not 'already monetised' the debt, otherwise bonds would be priced exactly as legal tender, which they are obviously not (they generally trade at a discount - and they'd have much more of a discount right now if it weren't for QE).

besides, legal tender laws prohibit the actual process of monetisation from being performed by anyone except the seignior (the BoE in sterling's case).

...

havnig said that, you are right - there is no point to QE - it won't work. But it won't create hyperinflation either.

...

there is a point in QE - it allows the gov't to 'technically' pay its bills that it would otherwise have had to default on by now.

and what are you saying will not cause hyperinflation? an ever increasing national debt that all ends up being monetised?

Edited by InternationalRockSuperstar

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  • 140 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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