How an Economy Grows and Why
Aug 13, 2010
No Exit - Stage Left or Right
This week, national attention was fixated
on JetBlue flight attendant Steven Slater, whose bold, creative,
and controversial exit strategy could revitalize his future prospects.
Not nearly as noticed was the Federal Reserve's decision on Tuesday
to avoid finding an exit strategy for its own never-ending career
trap. Unfortunately, the Fed's choices affect our lives much
more than Slater's.
Just a few weeks ago, pundits were asking how Ben Bernanke would
shrink the Fed's bloated post-crisis balance sheet. But in its
August 10th decision, the Fed signaled that it would "recycle"
its debt holdings; in other words, there would be no exit strategy
for the foreseeable future. Given the fact that monetary stimulus
will not only fail to spark a genuine recovery, but create a
never-ending need for successively larger doses, Bernanke should
grab a few beers and head for the nearest available emergency
About a year ago, economic forecasters claiming insight into
Fed deliberations spread the word that the central bank had devised
a methodical exit strategy to unwind its balance sheet. The
only question they thought worth discussing was when the plan
would begin. Some even speculated that it already secretly had. In
a July 2009 commentary entitled "No
Exit for Ben," I argued that Bernanke and his cohorts
never had any serious intention of implementing such a policy.
I suggested that the Fed would continue to play the role of money-pusher
- making sure the addicts were never denied a fix, even if an
Like their patrons in the White House and on Capitol Hill, the
Fed is totally dedicated to postponing the short-term consequences
that would result from breaking America's addiction to cheap
money and easy credit. Compared to this imperative, the long-term
economic health of the country barely gets a second thought.
Any moves by the Fed to shrink its balance sheet, thereby withdrawing
liquidity from the real estate market, would add significant
downward pressure to home prices. Lower house prices would
bring on an additional wave of foreclosures, which would then
force many previously bailed-out financial institutions back
into bankruptcy. (With foreclosure data growing more ominous
despite the current stability in house prices, it looks like
these institutions are headed back toward bankruptcy even with
To prevent this economic chain-reaction, the Fed will step in
with "quantitative easing" as soon as it becomes obvious
that the Administration's stimulus-fueled "recovery"
of the past three quarters is fading. The problem is that each
round of stimulus, as with each hit of an addictive drug, requires
ever-larger doses to produce the same result. The
more leveraged an economy becomes, the bigger the lever required
to move it. So the more the Fed stimulates now, the more
it will be forced to stimulate later. The only exit strategy
this course allows is an overdose - hyperinflation.
To counter these concerns, Bernanke and his supporters have said
that their stimulus will be withdrawn as soon as the recovery
takes hold in earnest. This misses the point that any "growth"
created by stimulus is totally dependent on stimulus to continue.
The "recovery" will end as soon as the stimulus prop
Those who fear a double dip recession are justified in their
concerns, but they are also missing the big picture. The
2008 recession never ended. It was merely interrupted by trillions
of dollars of stimulus that purchased GDP "growth"
with borrowed money. But as the bills come due, GDP should
now contract so we can settle up - but instead we'll take on
I expect the coming doses of quantitative easing will finally
spark adverse reactions, first in the dollar and later in the
bond market. When a falling dollar forces consumer prices
and long-term interest rates to rise, the Fed's actions will
be rendered impotent. The Open Markets Committee will have to
make a horrific choice: fight inflation by tightening policy
into a weakening economy, or fight recession by allowing inflation
to burn out of control. I think it's obvious that they will choose
inflation, all the while pretending that it doesn't exist.
Unfortunately, no one at the Fed has the honesty and courage
to suffer the short-term shock that would accompany any meaningful
exit strategy. Withdrawing liquidity and shrinking the Fed's
bloated balance sheet would no doubt bring on a severe contraction
in GDP, but the moves would also enable the US economy to form
a solid foundation of savings, capital investment, and industrial
production upon which a real recovery could be built. By
contrast, more stimulus simply magnifies the imbalances, including
excessive government spending, too much consumption, inadequate
production, and artificially elevated asset prices.
After decades of abuse, it's time for the Fed to make
a dramatic exit, because the US economy can't take it anymore.
[Editor's note: Highlighting
to buy Peter Schiff's best-selling, latest book, "How
an Economy Grows and Why It Crashes."
For a more in depth analysis of our financial problems and the
inherent dangers they pose for the US economy and US dollar,
you need to read Peter Schiff's 2008 bestseller "The
Little Book of Bull Moves in Bear Markets" [buy
here] And "Crash Proof 2.0: How to Profit from the
Economic Collapse" [buy
For a look back at how Peter
Schiff predicted the current crisis, read his 2007 bestseller
"Crash Proof: How to Profit from the Coming Economic
More importantly, don't wait
for reality to set in. Protect your wealth and preserve your
purchasing power before it's too late. Discover the best way to buy gold at
www.goldyoucanfold.com, and subscribe to
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Aug 13, 2010
C.E.O. and Chief Global Strategist
Euro Pacific Capital, Inc.
Mr. Schiff is one of
the few non-biased investment advisors (not committed solely to
the short side of the market) to have correctly called the current
bear market before it began and to have positioned his clients
accordingly. As a result of his accurate forecasts on the U.S.
stock market, commodities, gold and the dollar, he is becoming
increasingly more renowned. He has been quoted in many of the
nation's leading newspapers, including The Wall Street Journal,
Barron's, Investor's Business Daily, The Financial Times, The
New York Times, The Los Angeles Times, The Washington Post, The
Chicago Tribune, The Dallas Morning News, The Miami Herald, The
San Francisco Chronicle, The Atlanta Journal-Constitution, The
Arizona Republic, The Philadelphia Inquirer, and the Christian
Science Monitor, and has appeared on CNBC, CNNfn., and Bloomberg.
In addition, his views are frequently quoted locally in the Orange
Mr. Schiff began his investment career as a financial consultant
with Shearson Lehman Brothers, after having earned a degree in
finance and accounting from U.C. Berkley in 1987. A financial
professional for seventeen years he joined Euro Pacific
in 1996 and has served as its President since January 2000. An
expert on money, economic theory, and international investing,
he is a highly recommended broker by many of the nation's financial
newsletters and advisory services.