A wizened sage examines Cardinal Mishkin’s latest inflationist sermon:
“…given that the central bank’s ultimate goal should be to maximize the public welfare, I believe that the design of monetary policy ought to reflect the public’s preferences, …
“By cutting interest rates to offset the negative effects of financial turmoil on aggregate economic activity, monetary policy can reduce the likelihood that a financial disruption might set off an adverse feedback loop. The resulting reduction in uncertainty can then make it easier for the markets to collect the information that facilitates price discovery …
“…the central bank needs to monitor credit spreads and other incoming data for signs of financial market recovery and, if necessary, take back some of the insurance; thus, at each stage of the episode, the appropriate monetary policy may exhibit much less smoothing than would be typical in other circumstances. …”
He asks, incredulously: “Who wrote this–Chris Dodd? Or Barack Obama?”
I have said it several times before, and I’ll say it again: Mishkin is the most brilliant idiot alive today.
The first step to “price discovery” is a general collapse in prices. Flooding the system with FHLB paper, TAF paper and Treasury guarantees does not enhance price discovery at all. It literally reverses the arrow of financial time.
Interbank fears are not somehow “bad.” Kind of like anger and depression aren’t “bad.” Anger and depression exist for a reason. So does distrust between any two parties. The banks know that some of them have some very dirty laundry. They will not trust each other until the laundry is bled out. “Information” quality is very poor right now, and the only way to improve it is to accelerate price discovery. If anything, credit deflation will force debtors to dump hidden bad debts as soon as possible.
Flooding the system with paper institutionalizes hidden asset price inflation. Deflation will happen eventually, as it did in Japan. And it will take 15-plus years.
The Fed, however, has infinite faith in its ability to create money. That’s not going to wish any problems away. Lower-class Americans are going to be totally screwed, just as they have been in Japan. Japanese societal myopia allowed the 1980’s keiretsu clique to steal an entire generation of economic growth by flooding the system with cash when Japanese asset prices collapsed in 1989-91. That must not happen here.
But it is happening regardless.
In any case, my portfolio’s schadenfreude grows by the day.
About 4 points’ alpha over the S&P today.