Bernanke’s Coming Quantitative Tightening (QT1) Will Doom Obama’s Re-election

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by Ralph Benko, Contributing Author: The chickens of quantitative easing — and the devaluation of the dollar that it is causing — are coming home to roost. Bloomberg reported on March 4 that commodities have reached a two-year high, while cocoa has reached a 32-year high. The Financial Times noted that cotton prices have climbed “above the price reached during the cotton embargo of the American civil war in the 1860s. Trading reports have excitedly pegged the price of oil somewhere around $100 — well above its $53 average for 2009, not to mention its $23 average for 2001.

It takes a little while for commodity price increases to begin to percolate into the consumer price index.  It takes months, though, not years. There are many who expect the broad inflation measures to become uncomfortably high by 2012, perhaps even by 2011.

Although rising prices are a symptom of monetary depreciation — not of economic growth — what’s a Federal Reserve Chairman stuck with a world dollar reserve system going to do?  If he’s Ben Bernanke then he will honor his declaration that “the most important lesson of all is that price stability should be a key objective of monetary policy.”

Among the steps such a chairman is bound to take will be an initial quantitative tightening: QT1.  This and other tightening measures in an effort to unwind his burst of super-liquidity will tip the American and world economies back toward a slowdown. Now, a withdrawal of excess liquidity — if done with precision — would strengthen the dollar and be good for growth. This is laudable in theory, and not recessionary. A strong dollar is pro-growth.

In the grim reality of the world dollar system, however, this is virtually impossible. Vivek Ranadivé, the smartest guy in Silicon Valley you’ve never heard of, astutely wrote in 2007, “If you applied the Federal Reserve approach to ensuring a suitable temperature in your home, you would turn the heater on and off every three months, overheating or under-heating your house.”

That’s precisely what seems to happen to the economy. A not-too-hot or too-cold “Goldilocks economy” is what, in theory, the Federal Reserve aims toward. Ironically, four of the past five tightening campaigns (1973, 1980, 1990, 1994, 2001) initiated by the Federal Reserve resulted in recession.

Ranadivé’s company, TIBCO, writes and installs the code by which multinational corporations manage their inventories with great precision, according to protocols (real time rather than batch data processing) eerily similar to those of the classical gold standard. Due to the inherent imprecision of the governance protocols available to the governors of the Federal Reserve, and because of the system’s systemic lack of real-time data, it is technically virtually impossible for the Fed to tighten without causing a recession.

Unless Bernanke procrastinates badly — and recklessly — the resulting slowdown, and probable downturn, is likely to become visible well before Nov. 6, 2012.  QT1, perhaps this year, perhaps next, almost certainly will influence, and perhaps doom, Obama’s prospects for re-election.

Is there another way? As it happens… Rising prices caused by dollar weakness brought about by Bernanke’s aggressive “quantitative easing” already are gaining wide notice. On March 17, the House Financial Services Subcommittee on Domestic Monetary Policy will be conducting hearings on monetary policy and rising prices under the direction of Chairman Rep. Ron Paul and Vice Chairman Rep. Walter Jones.

Considering the distinguished witnesses being called — former Reagan Gold Commissioner Lewis E. Lehrman, with whom this writer has a professional association, James Grant, publisher of Grant’s Interest Rate Observer, and Joseph Salerno, Chair of the Economics Graduate Program at Pace University – these may be the most important monetary hearings to be held on Capitol Hill since the Nixon Shock that “temporarily” closed the gold window in 1971.

In a press release announcing the hearings, Rep. Paul decries that the “price inflation Americans suffer today is largely the direct result of relentless monetary expansion by the Federal Reserve over the past decade,” and Rep. Jones notes how “working people … are being squeezed at the gas pump and in the grocery store as they struggle to make ends meet in a world in which their salaries have no chance of keeping up with Mr. Bernanke’s printing presses.”

Bernanke is among the few living monetary authorities with some theoretical grasp of the gold standard. He observed, in an per written with Harold James, that the sustained deflation that was the precipitating factor of the Great Depression was not the fault of the gold standard, but was “the result of a mismanaged international gold standard.”

During his remarks at Washington and Lee University in 2004, Bernanke noted that

The gold standard appeared to be highly successful from about 1870 to the beginning of World War I in 1914. During the so-called ‘classical gold standard period, international trade and capital flows expanded markedly, and central banks experienced relatively few problems ensuring that their currencies retained their legal value.

He also recognizes that “unlike the gold standard before World War I … the gold standard as reconstituted in the 1920s [Ed. Note: the 'gold-exchange standard'] proved to be both unstable and destabilizing.”

Perhaps it is not too much to hope that Bernanke will decide that he does not wish to be remembered as Helicopter Ben. Or remembered as the Chairman who muddled through the boom-and-bust cycle of inherently unstable inconvertible dollars. He has the opportunity to add extraordinary luster to his legacy by beginning the process of transforming the rattletrap of the world dollar standard into something less dependent on the baling wire and glue of QEs and QTs.

Treasury Secretary Geithner said before a recent hearing of a House Appropriations subcommittee that the SDR as a replacement for the dollar is not viable.

There is only one real option. Rather than play “Recession Roulette” with the world economy Bernanke could stabilize prices under a regime with an excellent track record for prosperity by putting the world back on the course of resuming a classical gold standard.

Presidents and Federal Reserve chairmen come and go.  Few are long remembered; fewer still, fondly. An opportunity beckons to make, rather than be recorded in, history.  Bring forth, Mr. Chairman, what you yourself termed a “highly successful” monetary policy: multilateral and domestic gold convertibility.  Prosperity will ensue.
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Ralph Benko is a senior economics advisor to The American Principles Project and author of The Websters’ Dictionary: How to Use the Web to Transform the World. He is working on a new book, called "A Golden Age: the political consequences of the peace."This article which first appeared in the Forbes was submitted to the ARRA News Service editor for reprint by contributing author Ralph Benko

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