The bloodbath in US stock markets, as I predicted on Twitter on 08/03/2011, portends a trend: divestiture from American stocks and bonds to cash holdings to fly elsewhere for seeking better real rates of return, domestic and foreign.
US markets as safe havens are becoming less attractive since the budget deal of August 02, 2011. The markets are tired of neoclassical economic orthodoxy emanating from the Federal Reserve and are seeking greener pastures in more sensible places such as China and Russia, whatever the political ideology of governments. This time around Khadarkovsky will remain in Siberia and Putin will control the cash flow into Russia.
The irony of the budget deal is that investors are not, for sound political reasons, expecting US budget deficits to go down anytime soon. Government reform is a political circus.
New government borrowings will have to yield more, short or long, to pique investor interest, defeating the very purpose of raising the debt ceiling. To offset the expense to the government of those interest payments, the Federal Reserve must keep on buying government securities to artificially raise their prices and depress yields by expanding money supply, the Fed income from its asset side of its balance sheet a matter of government accounting in the unified federal budget.
High unemployment is keeping inflation low and Bernanke thinks this is central bank independence.
On net, the Federal Reserve is financing government deficits through the financial markets while stabilizing long rates, keeping short rates low and keeping its fingers crossed that inflation will not rise.
Why the charade of indirect Fed financing of the government when investors will begin to demand higher long rates on the new borrowing from the budget deal? They will dump both US long and short securities in time anyway before dumping the dollar by 2022 to lower its market share of global trade if America cannot learn to invest in itself.
Those dollars, unwanted elsewhere, will come back to the United States. They may change China and Russia but not help America.
Bernanke is an orthodox neoclassical economist who prefers not to think out of the box even when nearly a quarter of the country is going jobless in some fashion or another.
He would rather the government use fiscal policy out of the Department of the Treasury to incentivize real domestic investment than use monetary policy independence to both help freeze Federal spending and increase domestic real investment.
Bernanke spent $16 trillion in new money to bail out domestic and foreign banks but is unwilling to advise the President and Congress to freeze government spending for the next decade, directly finance the annually varying budget deficits while pushing from his bully pulpit as Fed Chairman to reform energy, infrastructure and taxes to increase domestic investment in concert with conditional domestic monetary policy to make industrial policy even though the Federal Reserve Act allows it.
He has endorsed every reform plan of the White House, without regard to their long term economic consequences, including the health care and financial regulatory reforms, to keep the Fed politically correct rather than independent.
The Fed Chairman has become a partisan poodle, relinquishing all independence of thought, of the Democrats in Congress and the White House to remain at the Fed in his job just as Greenspan had done before him for 18-1/2 years.
His time is up. He must be asked to leave the Fed by the President and the Congress for others who can shepherd the nation’s central bank in the interest of the people of the United States, and most importantly, even though the window of opportunity of American economic leadership has closed, to mitigate the extent of control foreigners can wield on the US economy, looking forward.
The United States getting its act together sooner is wiser than later.