"The most significant threat to our national security is our debt," Admiral Michael Mullen, Chairman, Joint Chiefs of Staff, August 27,2010


Thursday, November 4, 2010

Q E

If you follow monetary policy (who doesn’t besides John Stewart, John McCain and the last two white house occupants?) you know that the letters Q E stand for quantitative expansion or quantitative easing. Now that sounds pretty important doesn’t it? Quantitative expansion. What on earth is quantitative expansion? Sounds like something Albert Einstein could explain.

Here’s how Q E works. First some background. Federal reserve banks distribute currency where ever it is required. For example, let’s say your local bank has been the recipient of a large deposit of old raggedy-edged one, five and ten dollar bills. They have guidelines as to whether those bills should remain in circulation or be turned in for new bills. So, the local bank bundles up the old bills and sends them to the local fed and gets new bills in return. And that way when you go to the store you don’t get handed too many bills that make you wish you were carrying hand sanitizer.

Now here’s how else the fed distributes currency. This is the Q E part. It buys US securities. You know, the ones issued by the US government every time it does something but there is no cash in the till to pay for it. There hasn't been much money in the till for the better part of 30 years. But the crazy spending (which technically is not Q E but F E or fiscal expansion) has really taken off ever since Bush II and Obama II got their jobs at 1600 Pennsylvania Avenue NW, Washington, DC 20500.

The fed can buy US government securities from the treasury department or just go into the marketplace and buy them from member banks or the teachers’ pension fund or Mr. and Mrs. Smith. Usually when they buy, they buy a lot; like hundreds of billions. But, of course, the banks or the pension fund or Ma and Pa Smith want to get paid if they sell their bonds to anyone, including the fed. So, how does the fed get the cash to pay for the bonds? Two ways. They order it up from the bureau of engraving. In 2009 they asked for and received hundreds of billions of dollars worth of federal reserve notes. Each note (those pieces of paper in your pocket) costs about 7.5 cents to print. The pennies the fed pays covers the engraving, printing and related costs and put a few bucks in the till to cover the costs of the Christmas party (just kidding.) But that is peanuts compared to the trillions they create with electronic debits and credits in the banking system. No paper involved.

If the fed thinks that things need to be goosed up a little, they buy up securities and put cash (paper and electronic entries) in the system. And that folks is what quantitative easing (expansion) is all about. Did anyone do anything, like make a product or provide a service? Nope. Did anyone paint the house or fix the road or build a better mousetrap? Nope. Not necessary with Q E. You don’t need real economic transactions. You just create US dollars out of thin paper or thinner air and buy treasury securities. Eureka. You’ve got Bernanke Boom times.  (Aside:  When the financial history of American is written, the Monday morning quarterbacks (aka historians) will define the perfect storm as the unfortunate alignment, in a 12 year time span, in Washington DC, of Messrs. Bush II, Greenspan, Obama II and Bernanke.  Let's just call them the four equestrians of the apocalypse.  If TheFundamentals had any graphical skills, we would design a new federal reserve note with these idiots riding rampant across a background of the constitution and the front page of TheFundamentals website!)

What do we at TheFundamentals call this kind of activity? Well we believe, as we have said many times, in not reinventing the wheel. If someone else can say or do or demonstrate or even describe something better than we can we like to copy them, with accurate and appropriate attribution of course? So, we are going to answer our own question, “What do we at TheFundamentals call this kind of activity?” We’re okay with using the feds own letters; slightly modified. We call it Q and E.

Quick and Easy. Remember the advertisement that used that expression, "We make money the old fashioned way. We earn it.” The fed has revised it. They make money the old fashioned way all right. The same way banana republics have been making it since someone came up with the idea of coin and currency to replace gold, diamonds, wheat, oil and real wealth created products. The fed says, “We make money the quick and easy way. We print it.”

There are only two questions you need to ask anyone who will take your call. One, if this scheme backfires on us, what happens? And, two, if it’s so easy, why doesn’t everyone do it?

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