Slide 19 is instructive.

The inflation is still there waiting to re-assert itself. When the demand for goods in the real economy reassets itself. Many economists are very disquieted by all of this. I am skeptical as to whether the Fed will be able to mop up the excess liquidity. As is former St. Louis Fed chair Bill Poole.

In my view, all of this is a designed to lower the value of the dollar and inflate away some part of the debt burden. I will address this question in a future post. Andrew Lees of UBS has some interesting comments about FX strategy I would like to use for this.

Perhaps, though, the fed’s monetary policy (including the unconventional measures) is part of a more comprehensive strategy to devalue the dollar to improve the trade deficit. Unprecedented trade imbalances were part of the problem to begin with as they blunted the impact of Central Banks’ interest rate policies. An orderly devaluation of the dollar would go a long way toward correcting these imbalances

I agree that right now the deleveraging renders monetary policy useless. This is why the Fed and others are resorting to quantitative easing aka printing money.

Ultimately, all of this means that there is an inflationary erosion of the value of money underneath the piles of debt and deleveraging waiting to assert itself. I am not in favor of lowering interest rates to ward of deflation.

One reason we lost control of the shadow banking system was certainly (lack of) regulation but another reason is that these organizations were incented to take on more risk. They were merely responding to the signals given by monetary policy. And this is true regardless of whether you think about Mortgage lending, high yield debt, leveraged buy outs, hedge funds, credit cards and on and on.

And gepay says this carelessness may be designed. It may well be. Financial services is a special interest group that is definitely getting what it wants at the expense of everyone else. This has to stop.

Central bankers aren’t stupid, and they’re operating from a base of research and practical experience that we don’t have. Extended time preferences are exactly what we don’t need right now. We needed a lot more of it 4 years ago, and that’s where my beef is.

We now have pretty good ways to measure real interest rates, and not-great-but-improving ways to estimate natural real interest rates. It was pretty clear through even a basic Taylor Rule analysis that policy was too lax. Greenspan’s famous conundrum indicated they knew something was wrong in the long end of the curve.

I think our biggest policy error was losing control to the shadow banking system, and petrodollar/Asian recycling flows. Manipulation of time preferences is just fine by me.

I.O.U.S.A. gives some insight to where government debt is heading and what are the possible geo-political implications of having foreigners owning an ever increasing proportion of US debt.

this Wikipedia entry might be the best way to bridge the gap in what we are saying:

http://en.wikipedia.org/wiki/Money_creation

What I am saying is that Central Banks can create money by buying assets with non-existent dollars that they actually create out of thin air. On the other hand, commercial banks create credit by loaning out money.

The money multiplier allows the credit creation. Perhaps this is what you refer to when you refer to banks creating money. But, I see this credit not as money but credit.

I don’t follow you. Would you mind being more thorough in explaining your case. In regards to “out of thin air,” that usually applies to the central bank creating money out of thin air i.e. buying treasuries with previously non-existent money. How is it that banks are creating money out of thin air?

I have sympathy for Bernanke. If I were Bernanke, I would be hard pressed to make the right choices as well. No one wants to preside over a depressionary downward spiral yet the risks on the other side are equally daunting – inflation, dollar crash, more bubbles, etc.

Ultimately, it all reinforces the notion that it may well be best to set interest rates at an appropriate level and let the Government worry about stimulus.

However, another common argument as to why central bankers see low rates as beneficial now is that in theory low rates can reduce current debt servicing burdens for adjustable rate debt (ARMs, credit cards, etc). Obviously this is meeting with mixed success and must be weighed against the drawbacks you mention.