Treasury

kid math Quantitative Easing May Not Be PleasingWhenever I hear the phrase “quantitative easing”, I get a flashback to this statistics class that I took in graduate school. I’m sitting there with my stomach in knots, befuddled as to what the heck is going on.

It’s pretty accurate to apply that same reaction to the latest buzz of a second round of quantitative easing potentially occurring this fall.

The government has several tools in its belt when it comes to impacting the economy. Some tools fall under the “Fiscal Policy” category (including government spending to spur economic growth, and tax collection to provide revenue to the government). Other tools may fall under “Monetary Policy”, such as tweaking the money supply or interest rates to increase demand, encourage business lending and potentially a reduction in unemployment.

Like the dials of an Etch A Sketch, the government uses these tools in a delicate dance towards creating a rosy picture out of the US economy. One flinch in the wrong direction, and you’ve got a mistake that’s tough to fix without shaking it all up and starting over again (which some say describes how this last recession reset our economy to lower levels).

These dials have to go a particular way according to theory in order to get a certain result. However, with interest rates already low, government spending and debt already high, and the tax cut debate predicting dubious results; what’s left to do?

Like Superman, in swoops the idea of “Quantitative Easing” (also known as “QE”). If this sounds familiar, this monetary policy tool was last attempted in 2008 as one of the last acts of the Federal Reserve under the Bush Administration. The Fed injected money into the financial system by buying assets such as debt issued by private banks (such as bad mortgages packaged into mortgage-backed securities).

The Fed “eased” the burden on banks by providing them a “quantity” of liquidity in the form of cold hard cash, providing the banks with more capital to theoretically lend.

But the desired result of increasing in private sector loans, spurring commerce and reducing unemployment didn’t exactly happen. So why is the Federal Reserve trying it again? Haven’t you heard of the saying “Fool me once, shame on you. So fool me again”?

We’ll hear about the decision to try Quantitative Easing again (e.g., “QE2″) when the Federal Reserve has its November 3rd Federal Open Market Committee (FOMC) meeting. So there’s time for the government to reconsider, although at this point it sounds unlikely.

I say reconsider this form of trickle-down economics for two reasons:

1. Today’s financial system is far too complex and interwoven for traditional public finance tools to work predictably. For example, as far back as before the 1930’s it was fairly clear that lowering interest rates had upside potential. But now, we’ve got seniors without guaranteed pensions living off of savings often invested in bonds that may or may not produce the income that they need when monetary policy changes interest rates.

2. These traditional tools are Rube Goldberg machines for solving the issue in my opinion. There is unemployment because businesses aren’t hiring, because demand isn’t there, because people don’t have money to spend. And even if people had money to spend, nine times out of ten it would go towards paying down household debt.

Our government has very smart people at the top. But on this issue of improving the US economy, they’re thinking way too hard.

Rather than apply quantitative easing and giving money to banks towards encouraging lending towards entrepreneurs creating jobs towards putting money into people’s pockets which will produce spending–just cut out all of these middle men, put that same money in an envelope and mail one to every US household.

In the age where millions of people donated $25 to produce millions each month for our current president’s campaign, why not have the same faith in millions of people–when directly given the tools to feel secure to spend–to produce a “Trickle Up” economic recovery?

$1.7 trillion dollars were given to the banks in 2008 for the last attempt at QE. With the 2009 US population estimate at 310M, a Main Street QE would equal a check of almost $5500 to each person in the US.

If we narrowed the recipients to individuals over the age of 18, using 2009 census number the check would increase to just over $7200 per person.

And if we went by household, approximately 105M households by the 2009 census ups the check to $16K per household.

In order to increase the likelihood of having a return on their investment, the Federal Reserve could provide the following three choices to individuals on how to spend the money–and more than one could be chosen:

Choice 1: Enroll and pay for a local corporate or public sector provided educational program to learn competitive skills–skills that would give people the tools to build things such as software, electronics, and other sellable products.

Choice 2: Use the money to pay down household debt, and deposit a percentage in a local bank (which would provide local banks with deposits towards providing loans to the community).

Choice 3: Save a percentage, and spend a percentage in local businesses.

It’s definitely not easy to solve the problem of spurring the US economy. But if QE2 is implemented and doesn’t work, just don’t try to fool us a third time.

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Senator Paul is right in that the economy needs to deflate to a level that’s able to self-support without the goverment’s help, and that the government is spending too much (which will weaken the dollar, and leave our grandkids’ kids still holding the bill). And I agree to lowering overseas spending, and using that money to invest in infrastructure spending and other domestic needs.

But he wants to put a brick wall in front of a speeding car instead of an airbag.

His solution to our economic issues is to get rid of income taxes to spur spending, allow the economy to deflate without government intervention, and rely on the private sector to provide the funds to keep businesses afloat.

If we get rid of income taxes (and corporate taxes), how do we replace the crater in the federal budget that this will create? Reducing overseas spending will help. Yet overseas spending to some extent boosts our interests internationally and helps us either monetarily or politically.

But will reducing taxes spur spending? In particular, when there are people who don’t pay income taxes and won’t reap the benefits of getting rid of these taxes? Reducing income taxes by itself won’t necessarily spur spending because we have to also create an environment where individuals aren’t afraid to spend (for example, for fear of losing their job).

Plus, don’t forget that many people are losing their jobs and as a result, paying less income taxes already. Bloomberg is dealing with a $2B loss of income to New York City because fewer people (in particular, in finance) are paying income taxes–they’ve lost their jobs. Continue these job losses, and noone will be paying income taxes. And Senator Paul will get his wish.

Let the economy deflate without government intervention? He seems to be ok with double digit job losses–in particular, while he’s still employed as a Senator and getting a paycheck–but I don’t believe our psyches can survive that. Try convincing someone to spend when they’re frightened that they’ll lose their job. Which is leading to more job losses because businesses are losing income from sales revenue (which the economic bailout–not TARP, but AARP–is intended to replace until people spend again).

And private sector spending? Some in the US private sector have money (e.g., Buffet who invested in Goldman). But overseas folks have money too (Saudi/Citigroup, China/Morgan, Mexico/New York Times). What will it mean for the future of the US economy if we have a Bank of Dubai instead of Bank of America? Would we psychologically and monetarily recover? Can we say that we’re the most powerful country after potentially some serious international rebranding?

I don’t like the bailouts, but it’s lose/lose–a more contained mess than what Senator Paul is recommending. Plus, comparing deficit spending today to deficit spending in the past isn’t an apples to apples comparison.

As a side note–Dylan Ratigan gives me a splitting headache and I often wonder either what point is he trying to make or when will he let the guest speak. But he won me over at minute 7:20.

Once again, it’s not about giving Americans ipecac but rather Children’s Tylenol…now’s not a time to teach people a lesson even though we really deserve it after overspending and overinflating our economy to an unsustainable level. Do we want to give our grandkids a bill, or a country formerly known and branded as America?

Want more geeky observations? Please buy my book Three Little Securities!

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timgeithner Quantitative Easing May Not Be Pleasing

Tim Geithner is our new Treasury Secretary, the head guy on Obama’s economic team.

He’s not a product of Wall Street, unlike Hank Paulson (former CEO of Goldman). A plus, because occasionally it wasn’t clear if Hank’s decisions regarding formal rival banks were personal or not (for example, letting Lehman go bankrupt potentially because of his not liking Lehman’s CEO). Just a rumor, but not a far-fetched one.

Geithner is also more experienced than Paulson when it comes to government operations. He’s not a former CEO, and understands that it may take more than a 3-page explanation to sway Congress to pass a billion dollar bailout with no oversight or accountability.

And Geithner of a newer generation–one that shucks ideology, and questions rather than does things the way they’ve been done in the past because that’s the way it’s always been done.

Maybe Geithner will bring more thoughtful economic tools to the table. For example, perhaps he understands that it’s not rate-cutting that’s required to stimulate the economy, but rather a concrete plan communicated in terms that mom and pop can understand so that their confidence is restored.

Perhaps he knows that banks won’t loosen lending if the cost of borrowing is decreased. They’ll loosen lending if they’re more confident that the person doing the borrowing will pay it back.

And maybe he even knows that today’s investors won’t necessarily put more money in the stock market if rates in the bond market are lowered. They’ll put more money in the stock market if they’re confident that the companies they’re investing in won’t go under unexpectedly, nor spend their hard-earned investment dollars on spa retreats and private jets.

Tim Geithner isn’t perfect–he was at the helm of the NY Federal Reserve and Federal Open Market Committee this past year as Lehman went bankrupt and a whole host of perfect storm events occurred.

Nevertheless, he’s a fresh beacon of hope in a stale cabinet position.

But I just want to hear him talk first before being completely positive. Does he use big SAT words, or does he talk so that Jim Bob can understand what a credit default swap is? Will he be thoughtful enough to examine a problem and map out a solution that he’ll stick to, or will he speak first and think later, and hope that noone catches on?

The Dow seems to like him. Let’s see if mom and dad investor will too.

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