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Fed Confirms What Gold, Hard Asset Investors Already Knew

Interest-Rates / Global Debt Crisis May 26, 2010 - 05:49 PM GMT

By: Dr_Jeff_Lewis


Exit plan?  What exit plan?  The Federal Reserve issued a report before Congress in an attempt to clarify its stance during one of the worst recessions since the Great Depression.  The Fed, as always, said very little, but did make one thing very clear—the Fed has no idea what it is doing.

Zero Exit Strategy

To say the Fed has no exit strategy may be a little unfair to what is perhaps one of the most powerful entities in the US economy.  The Federal Reserve, attempting to settle fears about a double dip, made sure to imply that it would not seek to sell its recently purchased assets until the dust from the financial plunge settles.  The Fed will also seek first to raise interest rates before shrinking the monetary base.

Flexing its Muscles

Naturally, the Federal Reserve has plenty of financial muscles to flex.  The banking cartel can raise interest rates, increase or decrease the money supply, and has virtually every sector of the economy in the palm of its hand.  With just one action, Bernanke can help realign a $14 trillion economy from one sector to the next.  Cheap credit means a boom in housing, while expensive credit means a boom for investors. 

However, one thing the Federal Reserve can't do – and won't ever be able to do – is measure the effects its decisions have on the entire United States.  Remember, it was former Fed Chairman Alan Greenspan that said low rates had nothing to do with a housing boom.  Also, it was current Fed Chairman Ben Bernanke who agreed with Paul Krugman that the problem with the Great Depression was that the government didn't print enough money – rather than too much, as most economists have realized. 

However off base the Fed chairmen may be, their power over the markets is immense, and it is made clear by the recent news surrounding the Federal Reserve's decision to withhold asset sales.  By pushing back the asset sales until after the Fed chooses to raise rates, the Federal Reserve can attempt to measure how much affect it has over the will of the people.  When the Fed raises rates, the markets fear deflation, and the Federal Reserve can abandon the need to sell assets.

Reducing the Balance Sheet

The $2.3 trillion in the monetary base allows for an expansion of the money supply to as large as $23 trillion in a fractional reserve banking system.  That is a sharp contrast from a previously large $1.1 trillion balance sheet, which enabled a money supply only as large as $11 trillion.  To say that the threat of inflation isn't there is alarming, and the fact that the Federal Reserve will likely never dump these newly purchased assets back into the market only makes inflation more ominous. 

The simple fact is that the Federal Reserve must reduce its balance sheet or raise rates to the point of worthlessness to keep inflation in check.  To reduce the balance sheet, the Fed will have to soak up so much capital that deflation may again be a threat.  To raise rates would require that banking institutions and the US government rely further on foreign capital, making the economy that much worse.  Of course, the easiest answer, at least for the Fed, is to do nothing, instead opting to allow inflation to rear its head. 

By Dr. Jeff Lewis

Dr. Jeffrey Lewis, in addition to running a busy medical practice, is the editor of and

Copyright © 2010 Dr. Jeff Lewis- All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

© 2005-2019 - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.

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