The Wandering Economist

What is a Liquidity Trap?
According to Wikipedia, “In monetary economics, a liquidity trap occurs when the nominal interest rate is close or equal to zero, and the monetary authority is unable to stimulate the economy with traditional monetary policy tools. In this kind of situation, people do not expect high returns on physical or financial investments, so they keep assets in short-term cash bank accounts or hoards rather than making long-term investments. This makes a recession even more severe, and can contribute to deflation.”

All one has to do is watch what happened to the first half of the TARP money to understand that we are already in a liquidity trap. Hundreds of Billions of dollars have been directly injected into the largest banks in the country with more than a Trillion more in guaranteees. What has happened so far? Banks reserves have gone up, way up, but lending has only inched forward by the tiniest fraction.

Why Isn’t This Liquidity Being Lent?
Well now, that is the $200 Trillion Dollar question, isn’t it! My quess is that the banks are totally insolvent. That’s right, the banks have huge loads of unfundable liabilities because of their leveraging against sub-prime and other bad debt. The debt snowball that has been created is sneaking up behind them to bite them in the behind. Notice I didn’t say the issue was because of sub-prime loans, the issue is because of LEVERAGING sub-prime loans. When times were good, banks could make BILLIONS of dollars in profit from hundreds of millions of dollars in loans. They simply packaged up fractional packages of these, added in a huge batch of unsecured off-book debt and viola! Instant profits.

Unfortunately for them, when the reverse happens, as what occurs when the value of those originating loans fails, you can then LOSE billions on millions. In this case though I think we are looking at losses of tens of TRILLIONS against hundreds of TRILLIONS in gamblers loans.

What will the FED do next?
Well, the Federal Reserve is out of “Traditional Tools” at this point. Lowering rates and injecting proportionally reasonable amounts of money into the banks are their primary tools. Their secondary tools? Well, they will use what they have, the ability to create money. I suspect the FED will inject LUDICROUS amounts of capital into the system. I also suspect that this money will not be made real by the external purchase of U.S. Treasuries. Nope, I susupect they will begin to monitize their own debt on behalf of the good people of the United States.

Hyper Inflation Alert
My best guess is that they will be forced into injecting so much money, so fast, that they overshoot their targets by a factor of 50 or so where inflation is concerned. They are trying to prop up a system that is, or should be, at the end of its useful life. Keep in mind that I am not one of those people who hopes for the end of this system. I know the two likely outcomes and they both stink. Outcome #1, we all end up in debt slavery to a private banking system. Outcome #2, we end up in anarchy. I’m too old to play Mad Max. I’ll take a crash that injures us all bad enough that we stand a chance against the evil banking system when its all over. If we end up with outcome #2, I’m afraid we won’t even get a chance to play.

Another Ghastly Alternative?
The Federal Reserve Bank may even request the creation of a NON-US DEBT Federal Reserve Note. Remember, the FEDERAL RESERVE IS A PRIVATE BANK. I don’t think that they can resist the temptation of issuing their own private currency at a time like this. This would allow them to create money as debt for the American Taxpayers as well as their own private currency. Whenever you can see (and control) both sides of the coin, you can work the factors in your favor and end up the only winner. America, the land of the Free could become America, Inc. A privately held company.

The opinions expressed here are the result of too many long drawn out days of staring into the future of a country whose Financial System has seperated from its Economic System. Coupled with large quantities of anti-depressants and alchohol, my appologies for the dark tone today.

Tags: Banking //