$8 Trillion Reasons To Worry About Inflation

Nov 25th, 2008 | By Eric J Fry | Category: Featured

Nations do not purchase their prosperity, says Eric Fry. Since this crisis started last year, the government has thrown around $8 trillion at the problem. But these are banknotes that it has manufactured for itself. And that’s why we may soon face a severe threat from inflation.

This from The Rude Awakening:

Citigroup did not go bankrupt yesterday, therefore the Dow Jones Industrial Average soared nearly 400 points. If Citigroup does not go bankrupt tomorrow, there’s no telling how high the Dow might go.

Joy and jubilation returned to Wall Street yesterday because the federal government tossed a $326 billion lifeline to Citigroup - $306 billion worth of loan guarantees and $20 billion of actual cash. Unfortunately, Dow points aren’t as cheap as they used to be. Remember last March, when the Treasury handed a $30 billion check to J.P. Morgan to finance the Bear Stearns takeover? The Dow rallied 187 points on the news – or about one point per $160 million of bailout money.

By comparison, each one of yesterday’s Dow points cost $823 million. Alas, a law of diminishing returns seems to be taking hold. So even if we believed that the Treasury could buy a new bull market, the results would not come cheap. At $823 million per point, the price of sending the Dow to a new record high would be a whopping $4.7 trillion.

Unfortunately, an opposite tendency pertains: the more the Treasury spends, the more the market tumbles. Would you believe that the federal government has ACTUALLY committed $7.7 trillion worth of bailouts, loans and guarantees since the credit crisis erupted last year? And would you believe that the Dow has tumbled more than 5,700 points since this bailout bonanza began?

So, let’s see, that about one Dow point LOST for every $1.3 billion of bailout monies.

In no small bit of irony, the Treasury unveiled its very first bailout facility, the $80 billion “Master Liquidity Enhancement Conduit” (MLEC) on October 15, 2007 – just one week after the Dow registered its all-time high. Although the much-ballyhooed MLEC never actually materialized, it launched a wacky, new era of subsidized corporate failure and governmental caprice. Each new bailout has arrived on the scene as a “necessary evil.” But now we’ve got so many of these little devils running around that all hell has broken loose.

It’s entirely possible, of course, that all these devilish bailout programs will transform the devastated financial markets into a heaven on earth… or at least a heaven on Wall Street. But the early evidence is not very comforting.

According to a team of number-crunchers at Bloomberg News, “The U.S. government is prepared to provide more than $7.7 trillion on behalf of American taxpayers…This unprecedented pledge of funds includes $3.2 trillion already tapped by financial institutions in the biggest response to an economic emergency since the New Deal of the 1930s.”

The Bloomberg calculation includes a broad array of both direct and indirect bailout programs. In addition to the Treasury’s $947 billion TARP program, for example, the Federal Reserve has pledged to protect $2.3 trillion worth of money market funds and the FDIC has promised to guarantee $1.4 trillion worth of bank deposits. Various other programs and “facilities” provide the other $3 trillion worth of loans or guarantees.

Where does all this money come from? No one can really say exactly. But we know where it does NOT come from. It does not come from an enormous piggy bank that is sitting in some federal building in Washington, DC. Nor does it come from a traditional bank account that holds traditional savings. No, this money comes from that elaborate hall of smoke and mirrors known as the Federal Reserve.

This money comes from a monetary “system” that is not really a system at all; it is a work of performace art – an improvisation of a monetary system. The system utilizes an artful combination of promises, accumulated goodwill, foreign borrowings and government IOUs to validate trillions of dollars worth of a paper currency that America prints for itself. As long as this improvisation delights the dollar-holders of the world, all is well. But at some point, they might tire of the performance.

A few dollar-holders may be tiring of the performance already. On news of the Citigroup bailout, for example, the dollar slumped against both gold and the euro, while Treasury bonds also fell. One day does not make a trend, of course. But one year does. For more than a year, the U.S. government has been piling bailout liability upon bailout liability, while simultaneously forcing the Federal Reserve to bury the actual costs inside the complexity of its balance sheet and the opacity of its monetary machinations.

For now, the exact cost of socializing America’s recent financial sins remains a mystery. But even without the details, a couple of observations seem self-evident:

1. Nation’s do not usually purchase their prosperity, especially not with banknotes that they manufacture for themselves. Nations EARN their prosperity by the sweat of their brows.
2. The American government and its monetary authorities do not actually possess all the money they are spending, loaning and pledging in their various bailout programs. To the extent, therefore, that these bailout programs must deliver actual cash, the risk of inflation mounts. In other words, the money that does not really exist must come into existence somehow. And all of the possible sources of non-existent cash are inflationary.

Net-net, an inflationary cycle may return sooner than most folks currently imagine. To be sure, a sort of deflation now envelopes the globe. But if the current bailout bonanza continues, this deflationary episode may yield very suddenly to a new inflationary episode…in which case the bull market in commodities might resume on very short notice. Already, gold has rebounded more than $120 from its recent lows of $700 an ounce. And many other commodities are showing signs of life as well.