As you know, the Federal Reserve printed trillions of dollars to backstop the economy when the crisis first hit in 2008. The new money caused stocks to rise, but the fundamental problems of a housing glut, high unemployment, and weak real earnings remained. Recently, the Fed announced a second round of quantitative easing (QE2). It will buy $600 billion of U.S. Treasurys in an attempt to keep rates low (the true total is $900 billion, including money from maturing bonds already on the Fed's balance sheet).
The most important question regarding QE2 – and the question we asked Porter – is "When will the government stop printing money?" The answer is below...
But before we get to the interview, I want to remind you of the estate-planning conference we're hosting in Miami next February. We've been working with a top-tier estate-planning firm to bring you a revolutionary product that will not only shield 100% of your retirement money from estate taxes (the program takes advantage of a little-known IRS revenue procedure) but can actually double the amount of money your heirs receive. For the full details on the conference, click here...
Sean Goldsmith: The government has labeled its lending practices quantitative easing. We already had quantitative easing 1, which pumped trillions of dollars into our economy. We now have quantitative easing 2, where the government has committed another $600 billion to buying U.S. Treasurys. It just said today it's probably going to print more money because unemployment is still too high and growth is not to its liking. So where's the end? Are we going to see quantitative easing 3, 4, and 5?
Porter Stansberry: Let me be really clear about what quantitative easing is. There's some controversy about it, and it's poorly understood. quantitative easing, according to the Federal Reserve, is simply monetary policy in another form. And it's simply a way to manipulate interest rates lower to give a boost to the economy. Unfortunately, that's not the case at all because what quantitative easing actually is doing is covering the funding gap of the U.S. government.
Total domestic savings in the United States is about $600 billion. The annual fiscal deficit of the U.S. government (that's only one borrower... admittedly it's the largest borrower in the economy, but still only one borrower) is $1.2 trillion, give or take.
So the difference between what we can save as an economy and what we have to spend in stimulus as an economy is about $600 billion. Not surprisingly, that's exactly the amount of money the Federal Reserve says we require in quantitative easing. So it's printing up $600 billion and giving it to the Treasury. The Treasury therefore doesn't have to issue those bonds on the open market. If the Treasury had to actually auction an additional $1.2 trillion worth of debt instead of selling it directly to the Fed, the market prices of U.S. government bonds would be vastly lower. There isn't enough global demand to meet the U.S. government's funding needs.
This is a big problem going forward because once people get used to these low interest rates, a lot of businesses and employment is going to come to depend on them. But the more money the Fed prints to buy them, the more inflationary pressures will be created. So you've got this tug of war. You've got to print more money to keep interest rates low, but the more money you print, the more likely it is that interest rates are going to go much, much higher.
Once the Fed stops printing money and stops buying Treasury bonds, what will be the real market for interest rates? It could be much, much higher. And that could set the economy up for a real big interest-rate shock. And so one of my concerns is that once you start this quantitative easing, you can't stop, because the economic consequences of stopping are too severe.
SG: The only reason we're able to do any quantitative easing is because the dollar is the world's reserve currency. So what's the breaking point? When is it going to stop being possible?
PS: Let me be clear about that, too. If we were another country and were printing this much money, the consequences of doing so would be much more immediate. For example, if Argentina decides it's going to double the amount of money outstanding in Argentina, its peso would be devalued immediately, and it would be obvious to everyone.
The U.S. government has the luxury of having the world's reserve currency, which just means we can print the money we need to buy any commodity we need and repay all of our obligations legally. The Argentines can't just go print dollars. We're the only ones who can do that. So it puts us in a strong position, but it's a double-edged sword.
Because we have the power, we can get away with managing much, much larger amounts of debt. The problem is, getting away with managing it doesn't necessarily mean that having it is good for us. I believe having it is very, very bad for us. Total debt in the United States today is about 400% of GDP. It's obvious to anyone that is not sustainable. So the question becomes not how do we keep employment high… not how do we keep interest rates low… but how do we avoid a massive collapse of our economy because of the debt load. And I would suggest printing more money and running larger government deficits is not the way to reduce the debt load.
SG: The U.S. isn't the only one with these problems. It seems like every fiat currency in the world right now is heavily indebted, and those countries are printing money. So a lot more money is in circulation than there was several years ago.
What do you say to the people who still believe in deflation? Deflationistas – people who say, "My cost of living hasn't changed; the Consumer Price Index has barely budged"? You'd think by now these people would wake up and see the writing on the wall.
PS: I thought so back in 2008. It seemed clear to me when the government went with TARP and quantitative easing, the writing was on the wall... deflation – meaning a collapse in commodity prices related to a collapse in credit markets – couldn't possibly happen. And it couldn't happen because the government was going to print as much money and borrow as much money as necessary to keep the credit markets alive.
So while private credit creation has declined, the government issuance of additional credit has far exceeded those declines, so the total credit continues to grow. And when I mean total credit, I'm talking about the total debt in the U.S. economy has continued to expand. You can't have debt deflation when you've got the amount of total debt growing. And you certainly don't have price deflation when every commodity in the world has been on fire for the last 18 months. I mean silver has gone from about $7 an ounce at the bottom of the crisis all the way to $30 an ounce.
To believe in deflation, you have to believe the government will tell you the truth… that it won't print more money… that it's a reputable debtor. And none of those things are true.
SG: So can the U.S. fix this problem? Or are we at the point of no return?
PS: We have two choices… and we've had these choices the whole time. We can default on our debts, which would imply a tremendous collapse in our economy. It would be very, very painful, but it would be very, very short, because as soon as you write off the bad debts, you can move forward. So we would write off bad debts, the people who have made bad decisions would take big haircuts, a lot of people would be wiped out, a lot of bad investments would end up going south... But it would happen quickly and we could move on.
And if you look at countries that have made this decision to simply default – you look at Iceland, for example... Its economy is doing great now. It went through a terrible crisis, but now it's doing fine because it's not continuing a lifetime legacy of debt. In the U.S., we've made the decision to fight these deflationary pressures by printing tons of money and by running unsustainable fiscal deficits at the government level. So all we're doing is burdening our children with debt that will take decades and decades and decades to repay, while we're robbing our citizens through inflation to finance it.
These are very simple choices we're making, and the consequences are well known to any economist. I would argue the only moral answer to the dilemma is to default. Not that I think bankruptcy is necessarily the highest character choice, but it's simply a fact that we cannot afford these payments. Our government has made terrible decisions, and I don't think it's right for the creditors to expect to be repaid when they have made the mistake of issuing a completely unsustainable amount of debt to the U.S. government.
Goldsmith comment: In tomorrow's interview installment, Porter discusses what the Obama tax cuts mean for the economy, the now infamous Bernanke 60 Minutes interview, and historical instances of hyperinflation (and how they apply to today's situation in the U.S.). And if you still haven't seen Porter's "End of America" video, watch it here...