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Thursday, March 20, 2014

The Fed's Pyrrhic victory.

Pyrrhus of Epirus was an extraordinarily skilled general who bested the Romans in a series of battles in about 280 BCE.  However, the farther he drove his troops into Magna Graecia (Italy) the farther his supply lines were stretched and the more precarious his strategic position.  At the battle of Asculum his troops killed 6000 Romans while suffering less than 3000 casualties.  Yet after the battle, Pyhrrus famously commented that were he to win one more battle against the Romans, he would be utterly ruined.  He quickly withdrew back to Epirus and lived to become master of Sicily.

This story recalls the joke about the guy who jumps off the Empire State building and remarks, in contradistinction to Pyhrrus,  as he passes the 50th floor: "So far so good..."

The Fed is now in its 6th year in a war against excessive debt.  It is fighting the war by creating trillions upon trillions of new debt which it uses to retire "bad debt" which weighs on the balance sheet of the big banks.  The casualties in this war are the middle class whose lives depend on yield and savings.  There is no more yield, so savings are being confiscated to help keep the banks and the risk markets afloat.

Despite all the big talk about "normalization" there will never ever be any yield.  Never.  Because with 17 trillion of government debt ant another 70 trillion of unfunded liabilities the government couldn't survivive a positive rate environment. 

The banks - and the government (is there a difference?) use all the new money (debt) to gamble in the risk markets - especially the stock market which is floating ever higher on this wave of margin-debt gambling.  The high stock market and low rates give the appearance of Victory.

The question is: do we say that the cost of this victory will be utter ruin.  Or do we say "so far so good"?

The answer, sad to say, is pretty obvious.

Yet, if all is well, after six years of victorious battle, why then is the ten year mired at 2 1/2 percent?  Why is the real unemployment rate at 15 percent?  Why is capital expenditure growth slowing to the lowest rate since 2010?  Why does the velocity of money look like this:

The velocity of money is the very definition of money turning over in a productive economy.  It's not happening.  Because risk market gambling is a zero sum activity.  Risk market gambling creates no jobs.  Risk market gambling mis-allocates capital.  Risk market gambling is neither capitalist nor socialist.  Risk market gambling is a disease the eats at the fabric and the soul of the economy.

At what point does the new Fed Head Janet Yellen look out over the battlefield as say: if we win won more battle in this war on debt we'll be utterly ruined?

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