Shutting Doors to Easy Credit

"Easy credit ripoffs ... good times."

Did you know that the United States still enjoys unprecedentedly low interest rates? That's because the federal lending rate -- the one used by commercial banks to get U.S. dollars from the Federal Reserve -- is near zero. That means that if you want money, you can get it. It also means that Treasury Bonds are near worthless. The Federal Reserve keeps on buying them back, flooding the global economy with U.S. dollars. This, according to Ben Bernanke, is supposed to be a good thing.

Isn't this how inflation starts? Of course it is. The difference is that most other currencies in the world are in free-fall. The Euro is in the toilet thanks to near-universal austerity measures. The Japanese yen is falling thanks to a natural disaster. China pegs its currency to the U.S. dollar, causing it to rise and fall accordingly, thanks to China's government. See, with a floating exchange rate system, like the world uses today, the U.S. dollar can keep flooding the market with fewer consequences than in the past.

(Absurdly, the Canadian dollar is trading above the U.S. dollar -- at least, this is absurd for me, who has been used to a Canadian dollar trading lower than the U.S. since my birth.)

Why is this good? Well, the U.S. is renowned as an importer of goods because of our high standard of living, but the government is keenly aware that if the value of the U.S. dollar is too high, then U.S. exports will drop. This will damage an economy with a weak manufacturing sector, and the U.S. economy is already on life support. The best way to pull out of a recession is to boost production of tangible commodities, and the U.S. has been lucky enough to enjoy these boosts when the economy has been hurt; for the early '90's there were computers, and for the early '00's there was the housing industry. Unfortunately, as pointed out by J.K. Galbraith in The Predator Nation (which is where the title of this blog is from), housing is the last of the commodities that can be used to haul an economy from the dumps (which is what happened in Japan in the early '90's). So, we need to return to production, and this means a return to the manufacturing of exportable goods.

The problem is that no one is buying our exports. The U.S.'s main exports are large capital items used for manufacturin elsewhere (ironically). Most of the U.S.'s GDP occurs within the country itself, which means that the U.S. is not a strong importer, and likely never will be. It's a fool's endeavor to think that the U.S. will regress back to its manufacturing roots, so Uncle Ben's ploy is unlikely to work.

There's no where for the excess money to go. Foreign nations cannot purchase our goods because their economies are depressed, so there's no demand for U.S. dollars out of the country. U.S. citizens are already stretched to the max regarding credit, so there's little hope that demand within the country will increase. With no demand, the volume of money floating within the U.S. economy will expand as the government borrows more and more. Naturally, this means that the price of goods will go up.

What's Uncle Ben up to? He thinks we should keep the rate low to continue to try to will the real estate market back into shape and increase property values. However, this will not assist American consumers because the vast majority have little or no equity in their homes. In short, there's nothing left for us to use as collateral, so unless the banks want to give away money, there is no reason to believe that property values will rise significantly. The flood of money into the market is pointless because, as Judge Richard Posner points out in The Failure of Capitalism, America and its lenders are in a crisis of insolvency, not illiquidity, and no amount of money in the market will turn an insolvent company into a solvent one (absent borrowing money, of course).

The U.S. suffers from a problem of solvency. As is already known, we have stretched our credit to the maximum, and no longer have equity in the country. Savings rates are low, and savings are what help keep banks afloat when their assets cannot cover their debts (also known as solvency). With the interest rates low, no one wants to put their money into savings, which is a problem for banks and credit unions. The only way to fix this is to raise the interest rate, but that is an option Uncle Ben won't consider.

If Americans and their companies become solvent again, they can afford to take more risks. Taking risks is a key behavior for capitalism. Apparently, Uncle Ben and his cohorts have forgotten that uncertainty is very bad for capitalism. Why try to make it into a science if you prefer it to be as chaotic as the arts?