BEST OF JIM COOK

December 20, 2005

INFLATION

Robert Blumen, a software developer and economic thinker, gave an interesting speech recently on the new Federal Reserve chairman, Benjamin Bernanke. Mr. Blumen analyzed 14 papers and speeches by Mr. Bernanke and seven other Fed governors. Three themes emerge; the menace of deflation, the Feds strategy to prevent it, and the contingency plans to fight, it if all else fails. Basically it boils down to inflating. If the economy slows, inflate more, and if that doesn’t work, inflate even more.

The Fed’s greatest worry is something called the "zero bound problem." That happens when interest rates approach zero and can’t be lowered any further to stimulate the economy. It’s what happened in Japan. Mr. Blumen explains, "Bernankeism advises the central bank to avoid the zero bound problem by creating a constant state of pleasant and benign inflation of around 2-3%. This will keep the economy a safe distance away from the dangerous precipice beyond which lies deflation, and gives the Fed room to cut rates."

If, for some reason, inflating doesn’t work to stimulate demand then, according to Mr. Bernanke, the Fed would resort to "non-standard policy alternatives." According to Mr. Blumen, "The reader of the Fed’s papers and speeches will find a series of increasingly exotic plans for the dollar. From beginning to end, these methods range from the merely unsound to the bizarre and terrifying. When the Fed can no longer lower short-term interest rates, long term rates are the next obvious target. Among their options for lowering long bond yields are: the purchase of long-term U.S. Treasury Bonds, writing interest rate option contracts, purchasing foreign exchange reserves (in an attempt to lower the exchange rate of the dollar), and purchasing private sector securities like stocks and bonds. The measures described….. would involve massive Fed intervention in U.S. financial markets. If the above methods were not sufficient to ‘stimulate aggregate demand’, the Fed could loan money into existence, accepting as collateral almost any private sector asset whatever.

"These ‘unconventional measures’ all have two things in common: one, that they are more inflationary than the conventional central bank policies; two, that they are among the most absurd, bizarre, and preposterous monetary crank schemes ever proposed by anyone calling themselves an economist. Not to mention that some of these plans are illegal (according to existing Fed regulations), though who doubts that in a crisis, this would be ignored?"

That should tell you inflation is in your future. Listen to what Newsletter writer, Richard Russell, has to say, "The government will use almost any device to cover up evidence of inflation." He quotes from the King Report, "Home prices in October jumped 16.6% year-over-year….but housing prices and real estate taxes are NOT reflected in the CPI. Housing and real estate taxes account for 23.158% of CPI, but the BLS uses ‘owners equivalent rent’ to calculate housing prices and real estate taxes. For October, the BLS has this number at 2.3%." Mr. Russell continues, "The Fed’s job has all along been to hide any evidence of inflation through various devious methods such as ‘hedonic’ adjustments, ‘core’ inflation, rent instead of home prices – and always concentrating on current inflation while avoiding any mention of the dollar’s loss of purchasing power over the years." He concludes, "We’re moving into very difficult times. With the amount of debt now built into the U.S. and even the world economy, nobody knows just how the situation will work out. I’ve said for years that the final choice will be ‘Inflate or Die.’ I continue to believe that this will be the choice. Of course, the Fed has chosen the inflation path already. To sum it up in a sentence, the Fed has refused to allow the economy to correct and instead has chosen the path of inflation.