Saturday, December 25, 2010

Federal Reserve Dual Mandate

The S&P500 stock price index and the CPI were both around $8 in December 1901. Since then the S&P500 has grown to $1242 today while the CPI has grown only to $219. If a patient investor invested $8 then he would be able to buy 6 such baskets today and accumulated dividends paid over those years would buy several more baskets! The Fed enabled a 1000% increase in purchasing power return even while coping with some horrific wars and depressions!

The Fed has allowed the economy to flourish and at the same time held back inflation so that by following the textbook advice of buying stocks for the long run any investor could over time see their money grow in purchasing power.

The Fed must keep unemployment low so that work can get done and people can buy products so that companies can make money. The Fed also keeps inflation low so the basket of goods will not cost too much. The Fed has a dual mandate by law to perform a balancing act between inflation and unemployment, an empirical relationship: the Phillips curve plots the tradeoff in his study of inflation and unemployment in the UK from 1861 to 1957. Sophisticated elaborations are used today.

Joe

Data from http://www.econ.yale.edu/~shiller/data.htm

http://en.wikipedia.org/wiki/Humphrey%E2%80%93Hawkins_Full_Employment_Act The Full Employment and Balanced Growth Act (Humphrey–Hawkins Full Employment Act), is an act of legislation by the United States government.

http://www.washingtonpost.com/wp-dyn/content/article/2010/11/17/AR2010111705316.html

The trap of the Federal Reserve's dual mandate

By George F. Will

Thursday, November 18, 2010
In 1977, Congress gave the Federal Reserve a "dual mandate."

http://money.cnn.com/2010/12/02/news/economy/thomas_hoenig_meets_house_republicans/index.htm

NEW YORK (CNNMoney.com) -- For more than 30 years, the Fed has been tasked with a so-called dual mandate, which outlines two important goals: keep prices stable and maximize U.S. employment.

Tuesday, December 21, 2010

End the Fed?

The problem in a banking panic is that you cannot get your money out of the bank to convert to gold or to spend or to do anything with it. Your bank has lent that money out for productive economic activities such as running businesses or buying houses. Financial systems will always need to have a central bank such as the Fed as lender of last resort to step in and provide liquidity when there is a sudden surge in the demand for cash -- a bank run, panic, or whatever. Cash (or gold) is a hot potato that banks need to spend or loan out as soon as possible to avoid losing money due to storage costs or inflation. The real economy needs that money to finance production and consumption. The Fed and the financial system by high-speed transactions rapidly spin the small amount of cash electronically to support an economy much larger than the money supply. The attached charts show that the money supply is less than 2 trillion and that supports an economy of over 14 trillion. If people pull their money out of banks and convert it to gold then the economy would fall from 14 to 2 trillion because banks would not be able to make loans to keep business and consumers spending! It would actually fall more than that because gold transactions are much harder to accomplish than checks/debit cards. You would have to mail it certified mail or drive... The economy would essentially collapse. Financial systems are very delicate coördination systems for economic activity that naïve tampering by politicians can easily foul up.

It is a con game for sure, but that’s how it’s played. You say “if their bank can’t provide the gold…” and therein lies the rub. Only the central bank offers or offered redemption. Not commercial banks. After all, the gold was property of the treasury, not the local banks. Did I misunderstand you there? Back in the old days you could take a silver certificate to the federal reserve bank in San Francisco and get roughly a teaspoon of granular silver (forget how many grains) but that was never the case at commercial banks.

It all goes back to honesty and honest weights and measures, the core of every civilization from Sumerians to present day. You do understand what I’m saying, that redemptions occur when people distrust the central bank (they print the money, so to speak). That’s all part of perception. The people could be right or wrong. After all only a certain percentage would go that far, most are sheeple. But currently our government has printed far beyond ANY plausible imagination of the dollar having any realistic value.

The Fed HAS already depreciated the dollar 97% in 97 years. That’s grounds enough, don’t you think? I mean they’ve proved they cannot monitor economic trends, they can’t detect or even avoid bubbles and busts, only exacerbate them. Both Greenspan and Bernanke have said the same things regarding their respective bubbles. Game over.

Currency is small, most of the money is in checking accounts, CDs, money market funds, and other liquid assets that are forms of liquid money. A gold standard implies convertibility of money into gold. If sometimes people can convert to money to gold and other times they cannot convert to gold then I don't see how that can be called a gold standard. What are the rules that determine when somebody can convert and when they cannot? The problem in a panic is that people need or want their money. If they are demanding gold and their bank cannot provide the gold, then isn't that bank bankrupt? If people can't get their gold then what is the use of saying it is a gold standard? It is just a bunch of bankrupt banks without a fed that can print money to get through the crisis.

I could be wrong but I think this misinterprets the “gold std.” I don’t recall any time in history when ANY country ON the gold std had enough gold in the treasury to exchange for ALL notes outstanding. Currently I think the Euro and Swiss Franc are partially (15 – 20%?) gold backed. Point being that as Greenspan said in his “gold and economic freedom” essay, gold keeps the central bank honest. A country will not over-print money if it thinks citizens will then begin redeeming them for gold. That was starting in the early 60s under Kennedy and he struggled to cut spending, even ordered the withdrawal of troops from Vietnam and printing of silver cert’s bypassing the Fed.

If citizens perceive their govt is inflating, they will begin withdrawing and redeeming. Ordinarily that act, sustained for months lets say, is sufficient to convince remaining citizens that the paper currency is still good. You don’t have to fool all the people all the time, but you must have enough to allow redemption and you have to restrain your spending. Is that too much to ask??

After disgruntled citizens walk around for a few months with heavy metal in their pockets and don’t see any price increases at the store, they return the metal to the treasury and switch back to paper. That’s what Greenspan and others advocating “gold std” have always asked and I don’t think it’s unreasonable. Right now the US claims the highest reserves of all at 8000 metric tons.

I agree. Going back to the Gold standard is not practical. Banks borrow short and lend long. Depositors want to be able to withdraw their money in a hurry, sometimes. Borrowers want long-term loans and mortgage. There will always be a duration gap. In a panic banks will never have the cash or gold to refund the depositors' money. They will have to turn to the fed for liquidity -- short-term loans to get through the crisis.

If there were a gold standard banks would not want to hold large amounts of gold -- which pays no interest -- while waiting for depositors to come withdraw it. Banks need to make loans so the gold would be out being spent. If the depositor wants his money it would not be there. I don't see how it can work -- would the Fed truck in bars of gold to the banks getting run on?

Further there is not enough gold to support the current level of economic activity. Total liquidity vastly exceeds the value of the world stock of gold. The economy would shrink drastically.

I have not read Ron Paul's book "The End of the Fed", but have been watching the reviews, like the ones below. I disagree that getting rid of the Fed and going back to the gold standard is a good idea. For one thing, nobody has answered the problem of liquidity demands for banks during times of stress. Gold is not an easy media of exchange and to pay people off at the bankers window with gold is ridiculous. It would set us back to the 1903 Panic where they tried this and caused a collapse of the monetary system. There has to be flexibility in the velocity of money in the system, and something like the Fed is the only solution that I could see to take care of this. Right now is a transition time where there is a lot of cash distributed that will have to be absorbed, which hopefully the Fed will do by the next few years, and to reduce its asset holdings. Raising the reserve requirements on banks and requiring banks to hold Treasuries is in the works when this economy recovers a bit more. Can you imaging the Congress doing this? There is no way a Congressman is going to regulate some bank's holdings and have a team of regulators inspecting. He would be run out of Washington. Worse yet, to get that bunch to agree on regulation.

My suggestion is to replace Bernanke with a person who is a good cop. There needs to be a watchdog on the corruption that is going on both in the banking industry and Wall Street.

Do you think this talk of ending the Fed is just noise from the lunatic fringe that will never accomplish anything? Has the Fed gotten so bad? Something may come out of all this but I fear the devil is in the details and much of it is not thought very well so as to be practical. The USA Fed is already the most privatized central bank in the world -- Bernanke does not have to obey Obama or Congress on monetary policy, just give his quarterly reports. If the Fed is doing a poor job then do they want a takeover by the politicians who will likely push for more inflation and stimulus to get people back to work and get re-elected? It seems that no matter what Ron Paul proposes he will antagonize some large constituency who will push back through the political process to end up with something like what we have today. The current setup is probably as close as we will get to private banking. USA does not have inflation according to the CPI as measured by the BLS. If the measurement is wrong, then fix the BLS, not the Fed. I do think the cost of houses, gold, oil, stocks, bonds, education, loans, and medicine needs to somehow get factored in better because they seem not to impact the CPI when the Fed promotes price bubbles. Housing alone is a huge expense and really zoomed in 2000-2008 while CPI was flat, erroneously. The CPI forces concern about bubbles in pickles, toys, and cheap goods from Asia more than the big-expense items for American consumers. Monetary policy is the big item for the Fed -- inflation and unemployment. Regulatory responsibilities are more scattered ... Comptroller of the currency, CFTC, the states, etc.

http://www.amazon.com/End-Fed-Ron-Paul/dp/0446549193
End the Fed
Ron Paul

Wednesday, December 8, 2010

Hippie Educational Decline

Yes. Hippies are a big part of the problem. I never agreed with their promotion of drugs, dropping out of school, going without baths, dirty unkempt appearance, promiscuity, homosexuality, railing against the establishment that was supporting them. They were mostly lazy irresponsible unappreciative bums and crooks, or worse high criminals such as Charles Manson. There were some hippies even in Conservative Southern California. Some of them went to degree mills or otherwise got jobs and into the power structure where they watered down standards to meet their low expectations and low desire to work. With such bums in control the USA economy is performing worse and worse. California has been a leader in that downward spiral. There were social problems before hippies. Hippies just exacerbate those problems. I remember driving through Haight Ashbury San Francisco in 1970 three years after the summer of love -- it looked like a bombed out war zone with trash blowing down the street. Then in summer of 1987 the depressed illegitimate offspring of the summer of love were still congregating in the little park doing serious drugs. Something of a tourist trap but I don't even care to walk through it.

"I agree. I don't know how to change what is already a rolling steam engine down the track. The time to worry about this kind of stuff was back during the late 60's, early 70's during the "age of Aquarius" hippie movement. Now, that they are grown up, the chicken is coming home to roost."

Test scores still report USA going to hell in a handbasket with our teens headed to the bottom of the barrel. USA economy is doomed without corrective action. Obama should have focused on education instead of health care -- sickness can be reduced by a return to traditional diets, just as education can be improved by a return to traditional hard work, carrots and sticks. Bill Gates is right: more pay for the better teachers,... reward for performance. Similarly give students better grades for better performance, get rid of "social promotion" and don't pass them if they flunk. Make all classes hard enough to assess differential performance and get rid of mickey mouse art and music classes.

http://www.bloomberg.com/news/2010-12-07/teens-in-u-s-rank-25th-on-math-test-trail-in-science-reading.html

Fifteen-year-old students in the U.S. ranked 25th of 34 countries on an international math test Teenagers from South Korea and Finland led in almost all academic categories. China’s Shanghai region topped even Finland and South Korea. Microsoft Chairman Bill Gates, saying instructors should be rewarded for results