February 1, 2006

It is a (yet unrecognized) legacy of the Greenspan Era for the Fed to exploit the global leveraged speculating community and foreign central banks liquidity expedients. The ease with which this policy mechanism incites predictable Credit expansion and liquidity creation responses has simply been too powerful not to abuse. Although many have argued that this extraordinary financing arrangement can finance U.S. Current Account Deficits for years to come, it is better analyzed as a huge regrettable accident in the making. Sure, the deficit is being financed as easily today as ever. Yet the negative consequences of the resulting Global Liquidity Glut have become conspicuous….

What have we done? What on earth have we created? While it is unjust in this instance to shoot the messenger, I do find it appalling that the Greenspan Era has left us with the view that "monetary policy itself cannot sensibly be directed at reducing imbalances." Then where or to whom do we turn? It’s just shocking… How could we have drifted such a long distance from the traditional role of central banks as prudent regulators of sound money and Credit? We know that we cannot trust politicians to restrain booms or to even recognize underlying financial distortions and excess. It should be a Credit Bubble maxim that politicians never meet a Bubble they don’t adore. Central bankers must be willing and able to analyze the soundness of Credit systems and recognize and thwart excess; it’s our only hope, especially in the Wild World of Contemporary Finance. Today, the stability of the system depends significantly on a consensus group of independent, astute and principled central bankers (i.e. New Zealand’s Dr. Alan Bollard). They picked an especially inopportune time to shirk traditional responsibilities….

Since 1987, we have witnessed recurring Bubbles, each Bubble and inevitable "mopping up" policy response only more commanding than the last. For years the nagging issue has been how this all ends: What’s the "end game"? Well, we remain very much in the dark. Of course, the unwieldy global liquidity glut does today, as Mr. Geithner noted, "complicate the task" of monetary policy. Of course gradually rising U.S. yields and interest-rate differentials induce speculative inflows and, failing to disrupt Credit and speculative Bubbles, sustain loose financial conditions. Of course the U.S. Bubble has gone global and the most acute inflationary manifestations have developed in the oil and commodity markets – the things that the holders of the inflating dollar balances are keenest to acquire. Of course, the massive pool of global speculative finance grows larger and more dominant with each passing year of enormous U.S. Current Account Deficits, and that the entire world is one’s speculator community oyster.

But at what point do Asian central bankers finally recognize that they are trapped in a dangerous game of false prosperity? When does the euphoria associated with stockpiling unprecedented financial wealth transform into trepidation that they are accumulating receivables that will never be honored for the welfare and enrichment of their citizens - that they are being "Ponzied"? Or perhaps we’re moving in the direction of an initially less dramatic case of unnerved central bankers recognizing that the recycling of U.S. Current Account Deficits is fomenting progressive inflationary pressures throughout the energy and commodities markets, not to mention Bubbling financial markets the world over. They must these days be coming to the realizations that the global financial system is in serious disarray and that the Bernanke Fed is simply not going to be up to the task. For now, I will take an increasingly vocal "chorus of central bankers raising serious concerns about the threat to stability posed by the imbalances" as a meaningful development.