TCS Daily


Cowboy Monetarism

By Larry Kudlow - April 12, 2010 12:00 AM

Thomas Hoenig, head of the Kansas City Reserve Bank, is truly a new Fed superstar. I encourage all of you to read his recent speech in Santa Fe, New Mexico, where he calls for an immediate tightening of the federal funds target rate to 1 percent in order to prevent the build-up of financial imbalances that could create another credit-bubble boom that in turn will wind up as another credit-and-financial bust.

In other words, get ahead of the curve, instead of staying behind it. Slam down the threat of future inflation. To use Mr. Hoenig's words, put the market on notice that it must again manage its risk, and be accountable for its actions. Stop relying on the Fed's easy money. What great advice.

I'd like to go a couple steps further. First, the biggest problem with the Fed's easy money in the 2002-05 period — which set the stage for the boom-and-bust cycle — was that rates were held too low for too long. In those days, Alan Greenspan called it a "considerable period." Today it's called an "extended period."

Second, the Fed back then had something called a slow, measured pace. Remember that? That meant the Fed was telegraphing to Wall Street these small, teensy-weensy, incremental, quarter-percent increases in the fed funds rate. That, of course, meant it took the Fed several years to get back to normalcy. And it promoted excessive leverage and risk-taking.

I want a different regime. I'm calling it cowboy monetarism. What do I mean by that? I want Wall Street to be scared to death of the Federal Reserve. I don't want them lying around in bed with the Fed — I want them running scared.

Let me give you an example: Back in the 1980s, Ronald Reagan was often referred to as a cowboy in his tough dealings with the Soviet Union. Well, guess what? As we learned later, the Soviets were in fact very scared of Reagan's toughness in the Cold War fight against communism. So I want Wall Street to be just as afraid of the Fed as the Soviets were of Ronald Reagan.

And when the Fed does finally move — and it ought to move soon, as Mr. Hoenig says — it shouldn't do so in a teensy-weensy, quarter-point manner. It shouldn't tell Wall Street what it's doing every minute of every hour. It should surprise the Street with large, unexpected rate hikes like 75-basis points, or even 1 percent changes.

This would force curb Wall Street's propensity for large risky bets. It would keep traders honest. And it would put the kibosh on a new credit boom and bust cycle.

Look, I want the Fed to be thought of as a cowboy; you never know what it's going to do. Think John Wayne. I want both guns drawn, pulling the interest-rate triggers. If the Fed does that, then it's possible we can stop another credit bubble.

Volcker did this in the 1980s. He was right. It worked.

Sometimes being tough and unpredictable is the best monetary medicine. Cowboy monetarism. That's my take.


This article first appeared on Kudlow's Money Politic$.
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16 Comments

Hoenig: The Ron Paul of the FED
"To use Mr. Hoenig's words, put the market on notice that it must again manage its risk, and be accountable for its actions. Stop relying on the Fed's easy money. What great advice."

The only thing that this proves is that Hoenig is the Ron Paul of the Fed, that's all. Like Ron Paul, he'll be tolerated as a gadfly but totally ignored by the Establishment. If he somehow manages to even remotely become a true memetic threat, they'll figure out a way to take action to deal with him.

The international cabal of debt slavers otherwise known as 'the bankers' call the shots, folks.

[Off Topic] Why 'job sharing' leads to less employment, not more
Pay particular attention to this article, Roy. Esp the part that the author repeats over and over again: "There are no jobs without investment".

Notice how he doesn't say, "There are no jobs without consumption".

http://www.forbes.com/2010/04/11/jobs-unemployment-economy-opinions-columnists-john-tamny_print.html

[Off Topic] Watch your blood pressure: Details on the latest Obama Home Program
Hey Roy! If this one gets you all riled up...you're in good company. Because it ticks me off too.

"Now Team Obama has announced a daring new program -- call it ObamaHome 5.0. Instead of subsidizing delinquent homeowners, this program benefits homeowners who are underwater on their mortgages but continue to pay.

Obama will subsidize upper-income homeowners (folks owing mortgage balances of up to $729,750) by paying their banks if they reduce the principal balance to 97.5 percent of the home's value and payments to "affordable" levels -- 31 percent of the homeowners' income. For homeowners who owe second mortgage loans, the balance need only be reduced to 115 percent of the home's value. Obama will pay billions of taxpayer dollars to the principal-forgiving banks -- from 10 to 21 cents per dollar of principal forgiven, depending upon the overall percentage of principal forgiven.

So the administration wants the Federal Housing Administration to insure refinancings of qualifying underwater loans. Where first and second mortgages are reduced to 115 percent of the home's value, Obama will use additional TARP money to insure the portion of the reduced principal balance exceeding the 97.5 percent HFA limit...Equally problematic is who this will really help: Lenders will seize this one-time chance to shed their riskiest non-delinquent mortgages -- by passing them on to the taxpayers. It's a bailout of lenders who've refused to do short sales or work things out with borrowers."

Full column: http://www.nypost.com/p/news/opinion/opedcolumnists/prolonging_the_pain_57iHIEKqDZzgVCbL4EsbxM

There are no jobs without consumption
I don't need to read your article. Obviously for there to be a job, someone has had to make an investment somewhere. But tell me this: is it written in stone that such an investment MUST be made by private capital? Or have there been historical instances where public capital did the job as well or better?

Could the railroads have been built if Jay Gould had had to purchase every acre with his seed money? Or was a swath across the entire continent given to him by the federal government?

So your argument is not only simplistic, not only trite, but it's unnecessary. I do not oppose it.

Now let me ask this question: without customers, is there a commercial enterprise in existence that can stay afloat?

Still within safe limits
I think it's a frivolous use of limited funds. But it doesn't make my blood boil. Instead it sounds like just another back room deal, typical of this administration.

Here's a program I think you'd actually get a lot of information and entertainment from. You can watch the webcast here:

http://www.pbs.org/wgbh/pages/frontline/obamasdeal/

No, there are no jobs w/o investment at all
"is it written in stone that such an investment MUST be made by private capital"

Written in the stone of history books. Else, we'd all be attending weekly meetings with our local worker soviets and be happy as can be doing so.

"Could the railroads have been built if Jay Gould had had to purchase every acre with his seed money? Or was a swath across the entire continent given to him by the federal government?"

The government gave incentives FOR private industry to do its thing. Whenever the government has done so, private investors has delivered quite well. Note that the government didn't create something like NASA or the DMV to build the railroads. And if they had, would they have been built as fast, as well, and as economically as they actually were in reality?

Yeah...didn't think so.

"without customers, is there a commercial enterprise in existence that can stay afloat"

No, of course not. But w/o investors, there DEFINITELY wouldn't be new employment and/or better employment. And w/o such employment, there are less consumers and less overall consumption.

People have to produce FIRST before they consume, Roy.

What came first?
The US government invested in the railroads by donating the land for rights of way. Without that investment, rail transport would have been economically unfeasible. And farmers from Ohio to Oregon would have had no markets.

Investment capital is investment capital. A nation that wants to better its lot generally invests in infrastructure so its citizens can then make something of themselves. If we had waited for some source of Big Money to come over and fund our efforts, we'd now be owned by someone else.

"People have to produce FIRST before they consume, Roy."

That's a chicken-and-egg tautology. Obviously we have to produce and consume simultaneously. The issue is, what is needed to increase production?

Seed money and markets. Before you open your lemonade stand you need 25 cents to buy a lemon. But without customers, you make zero cents.

production always comes first.
"Without that investment, rail transport would have been economically unfeasible."

So NOW you jump on the 'investment is needed for more production' bandwagon?

"Investment capital is investment capital. A nation that wants to better its lot generally invests in infrastructure so its citizens can then make something of themselves. If we had waited for some source of Big Money to come over and fund our efforts, we'd now be owned by someone else."

Yes, it is. The issue is how well it is spent. Our education dollars are 'investment capital' to 'produce' another form of capital goods -- educated workers. But, it overwhelmingly fails when measured on effect per penny spent because it gets wasted in government bureaucracy and union rent-seeking.

And the issue isn't who invests capital. The issue is that capital needing to be invested in the first place and doing so in a way that builds more wealth. Most government spending does not do the latter while claiming to do the former -- in effect only redistributing wealth from those in our society that would otherwise use it more productively to those who don't.

"That's a chicken-and-egg tautology. Obviously we have to produce and consume simultaneously"

Really? How? How does one consume food before it is grown? The fields need tilling, the seeds panting, the plants maintained and then the fields need to be harvests and the food crops shucked, pressed, milled, etc. before the first person ever partakes any of it in consumption. Or, is it different on Planet Roy?

"The issue is, what is needed to increase production?"

You already signed up for the answer to that one as I already pointed out: more investment.

"Seed money and markets. Before you open your lemonade stand you need 25 cents to buy a lemon. But without customers, you make zero cents."

Oh, and the lemon is magically there to be had for said 25 cents in the first place? The lemon has to be PRODUCED first. Thus, one way or another ALL consumption happens AFTER production, Roy. There's no chicken-and-egg tautology here.

Much ado about nothing
You're remarkably brainless when you're intent on making a point. This is precisely a chicken-and-egg situation. Before you have a chicken, you must have an egg. And before you have an egg, you must have a chicken.

We are agreed that investment capital can come just as easily from either the public or the private sector. And that it may be intelligently spent-- or, perhaps, not so intelligently spent. The question is not whether it is invested for the purpose of getting personally rich or for the purpose of developing an economy. The question is whether it WORKS. Meaning, does it create jobs that create income that creates demand that spurs production that spins off profits. Or not.

Not at all, it is key to understanding what the relationships is between production and consumption
"Before you have a chicken, you must have an egg. And before you have an egg, you must have a chicken."

That IS the accurate description of the chicken-and-egg problem. But that problem does not apply here. There is no 'both'.

In economics, for that which you consume must be produced FIRST. Even if it is hanging in the trees, like oranges. You still have to climb up and pick them - the human involvement of the 'production' that makes the oranges available for 'consumption'.

There is no consumption of something before it is produced and no simultaneous activity of either. Even the chicken and egg paradox doesn't recognize simultaneity.

Yet you keep bring up this fallacy of logic.

"We are agreed that investment capital can come just as easily from either the public or the private sector"

No, we agreed that investment capital can be 'invested' by both. With the exception of very infrequent edge-cases, the government does not produce any investment capital but rather confiscates it from those who do.

"The question is whether it WORKS."

Agreed.

"Meaning, does it create jobs that create income that creates demand that spurs production that spins off profits. Or not."

Not agreed. Investment creates more production via either increase in volume or increase in efficiency (which ends up either increasing volume or lower the price for it or both) or both. Creating more jobs is not a goal, but a symptomatic outcome dictated by the level of our applicable technology. Expanding the amount and range and quality of produced goods (which includes services, btw) is the goal. For that is how true improvements in the standard of living arise.

Before you embark on nitpicking on my being anal about this distinction, you should be aware that we are entering a period of history that will involve incredible exponential amounts of change -- far, far more than that we've experience in the past 100 years or even the last 20. One of those changes will be a massive take-off in using automation to replace human labor.

In that environment, only the work that robots can't replace humans to do or is desirable for (like having human waiters instead of robots at expensive restaurants) will remain for humans to do. But the price of goods and services should drastically fall as well, so that people don't need to work as much.

Note: We don't really need to work as much as we do now except to service the debt we seem to willingly enslave ourselves to. But that is a whole different issue.

But the part where we get from A (current reality as we live in it) to Z (the above) will be fast, tumultuous and extremely disruptive for all involved.

And when people wonder what the hell is going on as this occurs, my 'anal' distinction will be the primary factor in understanding why.

And since I already know that you will be one of those people -- and loudmouthed about it with all kinds of half-cocked theories to explain why -- I am (quite hopelessly in all probability) attempting to drill this into your head now.

The coming century
I'd like to explore this theme for a bit: "..you should be aware that we are entering a period of history that will involve incredible exponential amounts of change -- far, far more than that we've experience in the past 100 years or even the last 20. One of those changes will be a massive take-off in using automation to replace human labor.

"In that environment, only the work that robots can't replace humans to do or is desirable for (like having human waiters instead of robots at expensive restaurants) will remain for humans to do. But the price of goods and services should drastically fall as well, so that people don't need to work as much."

I agree, that's the trend, as has been well described in books like The End of Work. But it brings up a question of great interest.

The way we order our affairs is by the possession of money. And the forces of inertia predict that those who do have money will naturally get more of it, while those born with none will be unable to acquire any.

So that in this new world without work, what happens to those with NO money? Not just a pittance, which presumably can sustain them on cheap necessities, living in trailers in the low rent country. But NO money?

Let's say in this future world there's only a need to sustain a half billion jobs, in order to have everything running smoothly and production geared so that supply is equal to demand. And let's say the world population stabilizes at nine billion.

What happens to the other 8.5 billion? Must they go to war, to try to take food and water away from the Haves? How do you envision this scenario?

how we order our affairs
"The way we order our affairs is by the possession of money. And the forces of inertia predict that those who do have money will naturally get more of it, while those born with none will be unable to acquire any."

They way I see it is similar, but different: The way we order our affairs is by the coercive nature of debt. Those who are in debt will work far more than they otherwise have to to those who hold the debt, who will get to work less and consume more.

"So that in this new world without work, what happens to those with NO money?"

Uh...there will always be money, Roy. As long as people demand a convenient means of exchange for trade, there will be money. Your local barter exchange credits businesses use is such money, for example.

"What happens to the other 8.5 billion? Must they go to war, to try to take food and water away from the Haves? How do you envision this scenario?"

I envision that it will be extremely disruptive and chaotic during the transition phase.

So, your worst fears are as good as mine, and vice versa.

Debt has nothing to do with it
Debt has nothing to do with it. When you're broke, you're broke. No one wil lend you a dime. Yet you have to eat.

Me: "So that in this new world without work, what happens to those with NO money?"

You: "Uh...there will always be money, Roy."

This is just more of your intentional stupidity. As you know, I didn't say there would be no more money. What I said, and what I know you understand, is that there are billions of people now on earth WITH NO MONEY.

"I envision that it will be extremely disruptive and chaotic during the transition phase."

We're in that transition phase right now. Two and a half billion of us are getting along on less than two bucks a day. And necessities in their part of the world don't cost much less than they do here.

And we already have wars of the haves against the have-nots. Look at Israel and Palestine, or the West and the Arab world. It's a problem that's only going to be getting worse as the dollar economy contracts. That is, as we come to shed more and more jobs with the dollars floating to the top.

Supply Side and interest rates...
The multinational corporate players dominating our Supply Side economy during the years after the recovery following the 2001 recession were more acutely sensitive to the multiplier effect of tax rates and interest. They were increasingly leveraged to maintain Wall Street earnings expectations and small shifts (up or down) hit post tax net income hard.

During the Reagan years interest rates lingered much higher following stagflation until after the recession of 1991. Therefore, tax breaks contributed dispproportionately to hold up corporate margins. But the burden of carrying the corporate water fell to lower bank interest rates as deflationary pressures built up...insofar as we did progressively less of our own manufacturing, our durable factors of production (factory floor) were less in damand and they lost value. More of the Keynesian inflation of a manufacturing economy shifted offshore. In the meantime during the Clinton '90s taxes drifted upward and we paid down our National Debt some.

We are still quite defaltionary here and as we recover back to a mature, re-leveraged Supply Side stasis (1%-2% GDP) those low interest rates are central to corporate earnings. Corporate taxes are about as low as they can go without making our deficit problems much worse and taking tax rates any lower will not cause this economy to expand anyway...because our major companies will not grow their operations here. They will milk the solid but slow US consumer market and expand into the rapidly developing markets of the rest of the world. This is why the Obama Administration is now looking to tax US corporate foreign earnings. Those entities were not making a lot of money offshore if they were only manufacturing over there. But when they start retailing in China too then the incremental heavy margins from that activity will never hit their US books pre-tax.

All this low interest business is hard on the banks. So the government is continuing to allow them to carry exotic, high yield, high risk assets. And to exploit households and small business clients.

Interest rates will stay low and we will only see inflation if we start importing inflation from China due to a stronger renminbi. If that happens the Fed has an ample portfolio of monetized assets to sell back into the market to manange inflation within its target range around 2%.

As long as you can work, you can be a slave to the Debt Masters
Our entire economy is designed to operate that way.

"This is just more of your intentional stupidity. As you know, I didn't say there would be no more money. What I said, and what I know you understand, is that there are billions of people now on earth WITH NO MONEY."

What? And the money is just going to be sitting around, not being used? There will ALWAYS be money around to buy goods and services.

"We're in that transition phase right now...Two and a half billion of us are getting along on less than two bucks a day. And necessities in their part of the world don't cost much less than they do here."

Uh, with all due respect (this time), we haven't even started. Well, I guess we have 'started'. But this is the pre-pre-pre warmup. The 'introduction game that doesn't really count for points', if you will. The REAL chaos is still to come.

As for the 3 billion getting along less than two bucks a day, that was the case before the accelerating change started to get noticed. And because they are so low on the economic ladder, those folks will actually benefit more than they will feel the pain. Most of the disruption will occur in the developed nations -- because they have 90% of the world's sunk investments that will become worthless in a (relatively) short amount of time.

For example, the telcoms over here in a major battle with their bought whores in the government and with lawyers to prevent getting killed by wireless and cable competitors. But in the Third World, such advanced infrastructures simply leapfrog the traditional copper line ones, because they were never developed much in the first place and are even less competitive against the new stuff than our established telecoms over here. In the end, the telecoms (and eventually cable) operators will be left holding the bag. That's going to cause all kinds of pain for a lot of people.

"Look at Israel and Palestine, or the West and the Arab world. It's a problem that's only going to be getting worse as the dollar economy contracts."

If the world traded with cowry shells Roy, the Israelis and Arabs would still be at each others throats. Your next point?

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