What Can Monetary Policy Really Do?

There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of the voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.

Ludwig von Mises

We have never met Eddy Elfenbein. Describing himself as an ‘aesthete… raconteur’, we are sure we would like him.

On Monday, he sent this tweet:

The Dow Jones Industrial Average peaked 90 years ago today at 381.17. By July 8, 1932, it had fallen to 41.22 — a drop of 89%. The index wouldn’t close at a new high until November 23, 1954 — more than 25 years after the peak.’

Thank you, Mr Elfenbien, for reminding us. Financial cycles can be long, unrelenting, and unforgiving.

Of course, that was back then. This is now.

With the internet running hot…and central bankers on the loose…it took only six years for the Dow to recover after the dotcom bust of 2000…and only three years following the financial crisis of 08–09.

And now, the authorities are hoping to recover from the next crisis before it even begins!

Monstrously distorted

Jerome Powell, head of the Federal Reserve, said his ‘challenge now is to do what monetary policy can do to sustain the expansion’.

But what can monetary policy really do? Each monetary rescue becomes more expensive and less effective.

Between 2000 and 2007, it took about $15 trillion in US debt, public and private — from 240% of GDP to 340% of GDP — to get the Dow back to its 1999 highs. Worldwide, debt increased 34%.

We’ve never been to Harvey, Illinois. But the press reported that the poor little town was forced to lay off police officers and firefighters in order to make good on its commitments to retired police officers and firefighters.

That is how debt works. Money must be drawn from the present and the future to pay for the past. The more debt, the slower the growth…and the greater the poverty.

In the next rescue, 2009–2019, debt rose even more. Worldwide, it more than doubled, growing five times faster than GDP.

And in the US, the feds spent $3.6 trillion on quantitative easing, $10 trillion worth of fiscal stimulus (deficits), and $1.7 trillion on a tax cut. And they offered negative (after inflation) Fed rates for nearly 10 years.

Still, it gave us the weakest recovery in US history. And it left the economy so feeble and so monstrously distorted that it needs constant infusions of fresh debt just to keep it alive.

Inflate or die

Yes, Dear Reader, that is one thing we’ve learned. When you pump up an economy with cheap credit (debt)…you have to keep pumping or it collapses.

This was a lesson we got from Ludwig von Mises (see quote above).

‘Inflate or die’, Richard Russell summarised.

That is why Jerome Powell, Donald Trump et al are so desperate. They need to add more inflation (more credit…more money…more debt) just to keep the economy from deflating before the next election.

The president is calling for a 100-basis-point cut in the Fed’s key rate, for example.

But investors are beginning to wonder: If lower interest rates are such a good idea, how come Japan and Europe are in even worse shape than we are?

And if you could really make an economy stronger by reducing interest rates, how come the US still needs help — after nearly a decade of negative (in real terms) central bank rates?


Investors are increasingly signaling they don’t buy the inflation-boosting policies central banks are selling, with some even fretting stimulus may do more harm than good.

Falling expectations for consumer-price growth, plunging bond rates and flatter yield curves all point to mounting doubts in financial markets over whether monetary policy makers have what it takes to reflate their economies and avert a global recession. “Quantitative failure” topped investor concerns in a Bank of America Merrill Lynch survey last month.

Here at the Diary, it would take forever to list all the things we don’t know. The number of things we do know is comparatively miniscule.

But we don’t bother to ask whether it is a good idea to pay people to borrow…nor whether more debt will really make the economy better.

We know the answer to those questions.

Nor do we wonder whether the feds can prevent another crisis; the answer to that is ‘no’ too.

And this week, we work our way down the short list of things we think we know; some of them could be important.

Naïve illusions

We had two big advantages when we began asking questions.

First, we were already over 50 years old — with plenty of experience in business and family.

Second, starting from nowhere, we were blessedly free of the dumb baggage that economists carry around. We could look at the world without academic claptrap…and without the naïve illusions of callow youth.

Yesterday, we saw Lesson #1: An economy can never be fully understood, modelled, or controlled. As we came to see more clearly years later, all public policies designed to improve the economy are scams.

Wealth doesn’t come from the government. It has to be earned…by hard work; self-discipline; detailed, unique information (not the generalised information that central planners use); and luck.

And the measure of a company — its stock price and capital value — is how much wealth it will produce.

So the dotcom boom of the late ‘90s looked false. Maybe some of the new tech companies would make money; most probably wouldn’t.

But it wasn’t easy to tell one from the other.

We saw Amazon.com spending a fortune to get customers, for example. Its retail model depended on undercutting competitors’ prices. Losing money on each sale, AMZN hoped to make it up on volume.

The ‘River of No Returns’, we called it.

Amazon’s retail model was flawed. But you could endow a museum with the money we lost by being right about it.

20 years later, the great river still doesn’t make any money on its retail business. But its cloud computing and information-selling operations have become profitable, and it turned out to be one of the best investments of all time.

Lesson #2: Nobody knows anything.

Just as the economy is too complex to control, so are markets too capricious to predict.

All you can do…and then, only through a glass darkly…is spot the extremes.

This you do by looking at prices in terms of the two most immutable, most reliable measures on Earth — time and gold.

More tomorrow…


Bill Bonner Signature

Bill Bonner,
For The Rum Rebellion

Since founding Agora Inc. in 1979, Bill Bonner has found success and garnered camaraderie in numerous communities and industries.

A man of many talents, his entrepreneurial savvy, unique writings, philanthropic undertakings, and preservationist activities have all been recognized and awarded by some of America’s most respected authorities.

Along with Addison Wiggin, his friend and colleague, Bill has written two New York Times best-selling books, Financial Reckoning Day and Empire of Debt. Both works have been critically acclaimed internationally.

With political journalist Lila Rajiva, he wrote his third New York Times best-selling book, Mobs, Messiahs and Markets, which offers concrete advice on how to avoid the public spectacle of modern finance.

Bill has been a weekly contributor to The Rum Rebellion.

The Rum Rebellion