Monetary Roach Motel

Relax, said the nightman
We are programmed to receive
You can check out any time you like
But you can never leave
--Eagles

Peter Schiff discusses why the Fed's 'no taper' decision was really no surprise. The Fed has checked into the ultimate monetary Roach Motel from which it cannot leave.

Way back when the Fed initiated what is now known as QE1 (the QEx numbering system prolly tells you all you need to know about the Fed's ability to end it), Ben Bernanke discussed the Fed's 'exit strategy.' Discussions of exit strategy subsequently vanished with QE2, Operation Twist, and now QEternity.

Bernanke used to say that the Fed's bond buying program was not 'monetizing debt,' i.e., printing money out of thin air to buy debt, because the Fed intended to sell those bonds back into the market once the economy 'stabilized,' thereby removing the 'temporary' printed money from the system. (The many flaws in that line of thought are topics for different days...)

Since then, the Fed has predictably shifted gears, suggesting that instead of unloading the $4 trillion in bonds building on its balance sheet, it will simply hold them to maturity.

Schiff astutely observes that this does the Fed no good either. If the Fed holds the bonds to maturity, then debtors will need to pay principal to the Fed. That won't help things, because the debtors will have to sell $trillions in assets to raise cash to pay the Fed its principal. Helloooo, selling cascade!

The Fed didn't taper because it knows that any reduction in stimulus takes the economy off life support and subjects it to immediate breakdown. The Fed wants to maintain the image that it wants to taper in order to keep the bond ghouls from assuming control of the bond market due to inflation concerns. It also can't afford to lose the stock market that QE has subsidized, as stock prices provide an illusion of economic health. Meanwhile, the Fed hopes that the economy miraculously roars back to health.

Hope, of course, is a fool's strategy. And unfortunately for the Fed, the bond ghouls may already be at work.

If rates continue to rise in the face of 'no taper,' then the game is up. Ten year T-note yield ($TNX) may therefore constitute the most watch-worthy measure on the planet.

POSTSCRIPT: A fresh article from Minyanville makes a similar argument.

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