The Impotence of Monetary Policy Exposed yet Again

By: Joseph T. Salerno

As I write this, the DJIA has just closed down over 2,300 points or 9.99 percent and the S&P 500 is down 9.51 percent. This is the market’s largest daily decline since the crash of October 22, 1987. And this is despite the fact that the Fed announced a “liquidity” injection of over $1.2 trillion into credit markets via term repurchase operations starting immediately.  The market briefly pared its losses in the wake of the announcement and then spit and continued on its downward spiral.  This should, but probably won’t, give pause for reflection to those who extol the creation of money as the panacea for every economic ailment.

In an article published in the Wall Street Journal three days ago, John Greenwood and Steve Hanke properly criticized the Fed for “fetishizing” and manipulating interest rates. But then they went on to implore the Fed to supply liquidity “to deal with the [coronavirus] panic—whether by quantitative-easing purchases of long bonds, by Treasury bill purchases, by repos or, most important, by increasing the amounts of U.S. dollar swaps available to the central banks of Japan, China, South Korea, Taiwan and Hong Kong.” And this is despite their recognition that their preferred broad money supply measure, Divisia M4, is growing at an annual rate of 6.9 percent, providing “ample monetary support for continued [economic] growth.”

Well, the Fed—at least partly—followed their advice yesterday to no avail. Trying to direct dollars into foreign supply chains by increasing dollar swaps with foreign banks would not work either. Dollar swaps are an attempt to assist foreign central banks in maintaining an overvalued currency in defiance of economic reality. In fact, the Reserve Bank of India (RBI), the central bank of India, just yesterday announced that it will undertake $2 billion worth of US dollar-rupee sell/buy swaps on March 16 in response to external outflows of dollars from local equity and debt markets.

The bottom line is that any economic contraction caused by the coronavirus pandemic would originate as a “supply-side shock” caused by real factors such as factory closings, supply chain interruptions, the impaired efficiency of service sector employees forced to work from home, etc. Printing up paper money and giving it or lending it to domestic businesses or to India will not bring about a miraculous replacement of the lost goods and services or repair broken supply chains. However, the “pandemic shock” may, and probably will, have repercussions on the demand side of the economy, likely precipitating a financial crisis.  But this is due to the designed fragility of a financial system based on fractional reserve banking and propped up by governmental policies such as deposit insurance and the too-big-to-fail doctrine. And we saw just how well money creation via quantitative easing and financial bailouts worked during the aftermath of the financial crisis of 2008.

Powered by WPeMatico