Kudlow- Close but No Cigar

The following is a draft for somewhere:

Supply sider and Reagan worshiper Larry Kudlow is out with a confusing RealClearMarkets column today explaining the announcement by the Federal Reserve and major central banks to coordinate in making dollar borrowing cheaper for foreign central banks (targeted at the ECB).  Though he recognizes some real issues, Kudlow misses the big picture on what is really ailing the Euro zone and global economy.

It's often said that help comes to those who help themselves. But Europe can't seem to help itself. So on Wednesday, the U.S. Fed came to the rescue. And that rescue triggered a global stock market rally, including a near 500-point gain in the United States.

Basically, the Fed is making it cheaper for Europe to borrow dollars. And this dollar backstop symbolically shows that the Fed, the European Central Bank, and other big central banks are not going to permit a 2008-type credit freeze and financial meltdown.

Wednesday's announcement of coordinated action brought stock market gains; but it was just a repeating of the same pattern of endless "emergency meetings" called by Euro zone leaders who put out press releases filled with soaring rhetoric over a final fix that lacks any actual or workable details.  Hence why the brief shot-in-the-arm market optimism only slightly pushes down bond yields lasts only for a day or two, if that.  Kudlow regards this as a great thing:

Basically, Bernanke & Co. cut the interest rate it charges for dollar swap lines to the ECB and four other major central banks (Canada, England, Japan, and Switzerland). With interbank funding pressures in Europe rising substantially of late, the Fed's action was timely. It doesn't really create new dollars, but it lowers the borrowing cost of dollars taken by the ECB and other central banks. Technically, the Fed has lowered the dollar swaps spread from 1 percent above the OIS - the overnight index swap, which is comparable to the fed funds rate - to only 50 basis points.
So this is good. And stocks responded by rallying big time.

What Kudlow doesn't say is that is that the Fed's action doesn't create new dollars now.  It depends on the willingness of the European Central Bank and other central banks to borrow dollars in order for new money to be digitized.  But make no mistake, the dollars will start flowing.  As Tony Crescenzi of PIMCO, the world's largest bond investor, notes:

Keep in mind that any use of the Fed’s swap facility expands the Fed’s monetary base: all dollars, no matter where they are deposited, whether it be Kazakhstan, Japan, or Mexico, wind up back in an American bank. This means that any time a foreign central bank engages in a swap with the Federal Reserve, the Fed will create new money in order to make the swap. Use of the Fed’s liquidity swap line in late 2008 was the main cause of a surge in the Fed’s monetary base at that time.

Kudlow is correct as he points out that this new "bailout" is only band aid for structural problems:

But in terms of Europe's overall problems, with governments unable to live within their means, and with investors on strike against government bonds and a very shaky banking system, the Fed action is really like taking a Tylenol gel cap. Might help the headache in the short run. But the fundamental illness is unaffected.

The European problem is a ballooning welfare entitlement state that is bankrupting most of Europe's governments. And high European tax rates are strangling economic growth. And the debt that private investors won't buy is held by a banking system that is increasingly vulnerable. And Germany, the strongman of Europe, doesn't want to pay to bail out the southern countries or anyone else - including, it would seem, France.

Sure enough, Europe's welfare state has been responsible for many countries racking up public debts so large that they can't pay the increased borrowing costs being demand by the private sector for their bonds.  Such spending was the result of cheap money.  which many Euro zone countries received upon joining the EU. The spending gorge made sense when times were good.  The trouble came when the cops were called to the parent-less house party that got out of control.  In this case, the cops are private investor who see Euro banks loaded with toxic assets and politicians unwilling to stop spending other people's money.  Since major banks own government debt, the vicious cycle will continue till both, unwilling as they may be, take their losses on the chin. 

Despite this mutually destructive relationship between banks and governments, Kudlow doesn't recognize the real structural problem plaguing not only Europe but developed countries around the world: the never ending desire on the part of central bankers to resort to money printing.   To paraphrase contrarian investor Marc Faber on the mindset of Keynesian economists, the solution to all problems is to print money.  When that doesn't work, the solution is always to more print more money.  While the Fed's new attempt at coming to Europe's rescue open up the door for more dollar creation, Kudlow doesn't acknowledge that the monetary base has already been expanding rapidly again since July.  Bernanke, along with China who also relaxed banking reserve requirements for the first time in years, is setting the stage for money printing on a globalized scale.

Despite his criticism of Bernanke's Fed over the past year, Kudlow still falls under the spell of "money printing as a cure all" that dominates mainstream economic thought.  While most CNBC talking heads rejoice over stock market rallies, stocks almost always react positively to news of government bailouts or central bank intervention.  What investor wouldn't take advantage of situation where taxpayers are forced to foot the bill for your losses? But money printing begets money printing however as it never solves any problem so far as kicking the can down the road to buy more time.

While Kudlow is right that the Fed's cheapening of dollar swap lines for the European Central Bank patches a small hole in the crumbling dam known as the Euro zone; he misplaces blame on the real structural issues at hand.  He surprisingly claims that Euro governments should take steps to "guarantee liabilities" for commercial banks.  For a man that supposedly believes in capitalism, such a statement is outrageous.

As long as central banks are always willing and able to print on demand, governments will spend like drunken sailors and banks will engage in all types of risky behavior.  Meanwhile Joe "Middle Class" Taxpayer watches his personal savings succumb to constant inflation.

Anyone not willing to watch their retirement gobbled up, including Kudlow, had better realize this before it's too late.

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Just wanna mention my piece over at LvMIC today entitled "More Government Please? Give Me A Break."  Here is an excerpt:

Thomas Frank’s “Easy Chair-More Government Please!”(More_Government_Please) which recently appeared in Harper’s Magazine is yet another short sighted plea in a mainstream publication for the benevolence of government to aid in the effort of putting people back to work.  In what amounts to nothing more than a Robert Reich-like worship of Franklin Roosevelt’s massive vote buying scheme known as the Civil Works Administration (CWA) and Works Progress Administration (WPA), Frank makes the call for a 21st century jobs bill.  The failure of the first stimulus bill, the American Recovery and Investment Act, to make a significant dent in the unemployment rate goes unacknowledged.  President Obama later joked about the lack of “shovel -ready” jobs contained in the bill; it’s always comforting when a president finds humor in generational theft without substantive results.  What also goes unmentioned is the newly proposed “American Jobs Bill” which saw a quick death in the Democrat controlled Senate.  Frank lumps blame on the Republicans for refusing to pass another short sighted spending measure despite the outright snubbing by the President’s own party in upper house of Congress. In reference to the CWA Frank writes:

To create jobs, the CWA did not offer tax breaks or fine-tune the regulatory climate.  No, the CWA simply hired unemployed people and put them to work…The program’s administrator, Roosevelt confidant Harry Hopkins, had famously spent more than $5 million in his first two hours of as a federal official.

Yes, nothing screams success like the squandering of stolen funds amounting to $5 million in a mere two hours.  One can only imagine the careful thoughtful process Hopkins employed in spending such a large amount of money (in that day) in such a short period of time.  In summing up the success of F.D.R.’s employment schemes, Frank states:
At the CWA, he (Hopkins) found jobs for 4 million people in two months…The WPA, which Hopkins ran from 1935 to 1938, ultimately created about 3 million jobs per year…The Civilian Conservation Corps…employed another 3 million.
Despite the millions employed, the unemployment rate remained stubbornly high during the period Washington gorged on spending:

Again, such facts elude Frank’s government worshiping.  He goes so far as to praise the building of murals in Post Offices and the paying of artists to paint and theaters to direct plays that plagued the New Deal’s desperate attempt at job creation.   Being that such activities are unprofitable in most instances, government funding of such boils down to wealth destruction.  While jobs in the private sector are the result of productive enterprise, Frank falls under the oft-made presumption that all job creation is equal.  If that were the case, the government could just spend trillions paying the unemployed to dig ditches with their bare hands.  No real wealth would be created but jobs are ultimate goal, right?

Also, my Krugman post from the other day made it on the American Thinker and Wealth Wire.  Here is an excerpt from that:

Considering that humans act to fulfill ends, its quite a stretch for a Nobel Prize winning economist to claim that financial transactions have "dubious" economic value. Broken down, all these transactions are is the conveyance of information. The quicker market information is dispersed, the sooner productive assets and services are put into more efficient use. The impact from such a phenomena can't be calculated in lieu of it disappearing all together. If such transactions held no value, then why would traders utilize them in the first place? Krugman takes it a step further:

In fact, there’s considerable evidence suggesting that too much trading is going on. Still, nobody is proposing a punitive tax.

In typical Krugman style, he mentions evidence of a suspicious claim without actually citing it. What really constitutes "too much trading" and how can such a suggestion even be measured? And sorry Paul, all taxes are punitive no matter how much divinity you think blesses the halls of Congress.

But wouldn’t such a tax hurt economic growth? As I said, the evidence suggests not — if anything, it suggests that to the extent that taxing financial transactions reduces the volume of wheeling and dealing, that would be a good thing.

Talk about misinterpreting cause and effect. Krugman sees financial trading and the invention of instruments such as mortgage backed securities as another sector not yet completely wrapped in the patronizing leash of government regulators. He often regards these transactions as destructive while citing their contribution to the financial crisis.  What Krugman deliberately avoids mentioning is that these instruments were a response to over regulation of an industry that is the lifeblood of capitalism. When regulators, drunk on their own authority, make profit seeking more difficult, alternative avenues of profitability are sought. Derivatives, mortgage backed securities, et al. were only the outcome of an overreaching government. In an effort to justify the taxes, Krugman mentions countries like Hong Kong and Singapore, which rank as more economically free than the U.S., already impose financial transaction taxes. What he really means is that despite these barriers on the free flow of information, Hong Kong and Singapore still have dynamic economies due to adopted free market measures.