The Unpredictable Price of Money

Another Fed announcement for immediate release, another $10 billion in “tapering”. Easy come, easy go… or maybe not.

Gold, in response, rose to $1,262. Government debt, at least the 10-year kind, dropped on the news, yielding below 2.7%.

Equities, at writing, are in the red for their fourth day in a row — but still only 4% off their peak two weeks ago. The S&P’s price-earnings ratio is nearly 19. Why you would pay that for any of those 500 companies is beyond us. Historically, the ratio’s average is 14.5, and it’s passed 20 only about eight times… just before the market crashed.

We’re of the opinion that the money the Fed’s created has chased up stock prices. Conversely, we think tapering will reverse the trend. In turn, we think a reversal will mean more QE, not less. Caveat emptor, a thousand times.

Don’t excesses in one form or another always have negative consequences?

“It strikes me that the Fed, in substance, if not in name, is engaged in a massive experiment in price control,” James Grant, of Grant’s Interest Rate Observer, told CNBC yesterday.

“They don’t call it that. They fix the funds rate. They manipulate the yield curve… I said ‘experiment in,’ but there is no real suspense about how price control turns out. It turns out invariably badly.”

For background, the price Grant says the Fed fixes is the price of money or credit. If you’re lucky enough — which governments and companies are — the price of credit today is practically free, thanks to Fed. That comes in handy if you’re indebted like government and companies are.

For starters, you can stay in debt longer with low rates. You can also free up cash to do other things instead of paying interest on your debt. For example, you can give the Pentagon $488 billion like Congress just did… or buy back $750 billion in stock like U.S. companies did last year.

Under these circumstances, we echo Grant and ask, how, exactly, can this end any way but badly? Scratching my chin in thought… the questions start piling up…

In both the public and private sectors, isn’t something being gotten for nothing at the expense of something else down the road?

Don’t excesses in one form or another always have negative consequences?

Shouldn’t debt be paid down while rates are low? After all, if paying down debt is too hard when rates are low, won’t paying it back when interest rates rise be impossible?

Shouldn’t companies be investing cash to increase profits… instead of spreading the profits they have among fewer shareholders? I thought workers needed to become more productive in order to pay back debts, anyway. Isn’t that the case?

If it is, how can workers ever become more productive… when low interest rates deter saving and investment?

Wait a second… can the Fed even allow interest rates to rise with such high levels of debt?

Are we the only ones with these questions?

Are we talking to no one?

Exasperated… feeling as though humanity has been here before… and receiving only crickets in response (, we give up. Instead, we leave you in the hands of the late, great John Pugsley. Click here to for his timeless wisdom about inflation as enabler and repudiator of debt.


Peter Coyne
for The Daily Reckoning

P.S. Even if no one bothers to answer us, we find it a useful exercise to at least pose these questions out loud. And if you know the answers, we encourage you to share them, either in the comments section of this post, or by signing up for the FREE Daily Reckoning email edition and fully joining the debate.

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