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Inflation, Deflation, and QE2

BEGIN TRANSCRIPT

RUSH: Sherry in Winston-Salem, North Carolina, it's great to have you on the EIB Network. Thank you for waiting, and hello.

CALLER: Hi, Rush. Great show as usual.

RUSH: Thank you.

CALLER: I'm learning something. I wanted to do my small part to try to clarify things about the Federal Reserve buying bonds and how that might lead to inflation.

RUSH: Please do.

CALLER: Oh, good. Well, firstly, when the Fed purchases bonds, the only way that leads to an increase in the money supply is if the Fed creates deposits to pay for those bonds. So I think people mistakenly hear the Fed goes on a big purchasing program, that means the money supply is gonna go up by that amount. I think that it probably --

RUSH: Wait a minute. Isn't that the objective? Isn't that what the Fed wants? Doesn't the Fed want inflation?

CALLER: Well, I believe that Bernanke is fine with inflation. I think that what he is deathly afraid of, being a student of the Great Depression, is deflation. I think he feels powerless to calm that deflation. So he's merrily going on his way holding the bag to the Treasury and allowing the money supply to skyrocket, and that will, in fact, I believe cause inflation. But Bernanke is excessively confident that he's going to be able to combat inflation. It's deflation that he's catatonically afraid of.

RUSH: I'm gonna get back to inflation in a second. Whether they're inflating the money supply or not, whether or not they're actually making deposits or not as you said, the fact is commodity prices are already rising. Look at oil. Look at gold. They're already going up just on the plan to do it. They haven't even made the first purchase yet of these bonds -- the stocks, the securities -- it's gonna happen over eight months. It hasn't even happened yet, and it's already the prices are going up because the people doing this, the investors know the dollar's gonna be weakened.

CALLER: That's correct. That's right. That's right. And the real economy -- you know, mom-and-pop businesses -- are working as hard as they can to keep being productivity to keep the real interest rate up there. So our dollars are strong for a reason, that they're not being inflated down in value.

RUSH: Now, what is deflation? I always struggle to explain this to people. I'm sure when you say that what Bernanke is really worried is deflation, some people who have not heard that before say, "What?" Please explain that, would you?

CALLER: Well, just imagine the economy shriveling up, that everybody wants to put their money under their mattress. Nobody wants to spend anything today because they think prices are gonna go down tomorrow, which is what deflation means, and why buy it today for $10 if I can wait 'til tomorrow to buy it for nine? And in the meantime, production falls, employment falls, and it's a vicious downward cycle that the federal government, that the policy makers do not have a tool to combat.

RUSH: Exactly right.

CALLER: All they can do is increase demand.

RUSH: That's exactly right, because what happens is when producers can no longer charge what it costs to manufacture or provide a service, then they're outta business.

CALLER: That's right.

RUSH: You're not even talking profit. If they can't even make the nut back --

CALLER: That's correct.

RUSH: -- and that's what deflation does, among many other things.

CALLER: That's right. The federal government, with fiscal policy and monetary policy, are absolutely powerless to combat it. They wouldn't have a tool kit to play with, and they would have to just trust the private economy to get us out of the mess, and they don't trust the private economy to get us out of this mess.

RUSH: And why not? Why do they trust the private economy?

CALLER: Because they're policy makers. They want to create a demand for their own services because they think they know better than all of us.

RUSH: Yeah.

CALLER: I think Bernanke blinked in '08. I think he blinked at the beginning of the financial crisis, and Geithner and the Treasury are the ones that are really calling the shots. I think the Federal Reserve has kind of lost its way, and they're trying to get it back to a point where they're autonomous, but they're absolutely not there yet.

RUSH: Right.

CALLER: So we basically lost whatever benefit the Federal Reserve could do for the economy, which is basically be predictable and insert liquidity into the economy. That's all the Fed can do anyway.

RUSH: And it hasn't been working. This is not the first attempt at it.

CALLER: No, but they're shooting themselves in the foot. Do you know that they're complaining about commercial banks not lending but they're paying banks to not lend? They're literally paying banks interest to hold onto their deposits and not lend them out. They're very disingenuous on the part of the Fed right now.

RUSH: Now, that's true, but you're gonna have to explain this in lay terms. I'm gonna take a break and I want you to formulate your answer here, but what happens when the banks borrow money and then turn around and keep it rather than re-circulate it and lend it, why is are they doing it. Because they're making more money by not lending it --

CALLER: That's right.

RUSH: -- because it's not costing them anything to get the money. Money is free right now. It is a vicious cycle. Look, hang on. This is an economics professor, Sherry from Winston-Salem, North Carolina.

BREAK TRANSCRIPT

RUSH: All right, Sherry, we're back, and I've got about four minutes here. I just wanted to give you some idea of the brevity we need to engage in here, but I have been hearing from economics friends of mine, economists, experts and so forth since the late eighties about deflation. I have been hearing about this paranoia of deflation, and yet to me this talk that there's no inflation going on is a crock. Go to the grocery store and tell me there isn't any inflation. I mean prices are going up. The idea that we're heading for deflation I think is partially a myth.

CALLER: It is a type of paranoia. I believe that. But the scholars, and Bernanke considers himself one of those, on the Great Depression, a lot of them link that to the failure of the Federal Reserve to step in and provide liquidity.

RUSH: Yeah, yeah. Well, that sounds like Obamaism. FDR didn't spend enough.

CALLER: Well, no spending is one thing. That's, you know, the government whipping out its checkbook and paying for things with tax dollars. The money supply is something completely separate. Just think of it as liquidity, the grease that goes around in the engine. It's not, you know, moving money through time, like debt does.

RUSH: Right.

CALLER: It gets confusing. You were asking before the break about why banks are doing what they're doing right now. On the one hand they're being criticized for not lending to private industry like they used to, and that is how they earn their profits, you know, they charge interest income for loans, but loans are just deposits to the bank that are not used as cash on hand to cash checks and reserves that they're required to hold by the Fed. So you got deposits on the one side of the balance sheet, that's their liability, and then you got currency and reserves and loans on the other side. So whatever money the banks take in that they don't have to keep as currency and don't have to keep as reserves, they should theoretically lend out in order to make money. But why they're not lending right now is two reasons. One is because the Federal Reserve for the first time in my memory are paying the banks interest on their reserves. So a reserve is a dollar not lent. And secondly, they're afraid to lend because the policies coming out of Washington are so oppressive and risky to private industry that the banks can't be really sure of getting their money back until we know that private industry is gonna be allowed to be productive and allowed to make long-term plans.

RUSH: Makes total sense.

CALLER: So they can't be sure of getting interest from private industry, it's very risky, and they're absolutely sure of getting interest from the Federal Reserve right now today. So why not just hold onto that money and --

RUSH: If the Fed is essentially paying them to keep money --

CALLER: They are paying them.

RUSH: That's what paying them interest is, then why should they take the risk of lending it to people who may not be able to pay it back because existing policy or future policy coming out of Washington may make it increasingly difficult to stay in business or to be productive? And all of this is -- folks, if I may interrupt here -- all of this is creating mass confusion and leading to an absence, a total lack of confidence. When you have a lack of confidence at the institutional level, from the Fed on down, the money people, when you have a lack of confidence in the economy, and you got a president overseas applauding the notion that America's economic dominance is over, you've got not only a lack of confidence, you have confusion, which is gonna cause paralysis, which is essentially where we are. You throw in this fear of deflation, and that means everybody's sitting on what they've got, pure and simple. It's not circulating, ergo let's flood the market with printed money. Vicious cycle. They've been trying it, and it hasn't worked.

END TRANSCRIPT

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