The money printing paradox

Money printing also known as QE i.e quantitative easing has become a prime tool for central banks to prime the economy at the hint of any potential slowdown. It is an essential part of the modern monetary theory, with it's own unintended consequences.

Central banks buying government bonds and generating money in the system is common these days. It essentially creates debt to prime the economy. No wonder USA is running a fiscal deficit of almost six percent of GDP, a historical high. Even though America has the reserve currency of the world in the form of greenback, economists have started arguing how long this drunken sailor behavior of fiscal imprudence may last.

This is essentially borrowing from the future to pay for our current extravagance. It makes sure the younger generation lives in debt while unable to prosper, servicing this debt through their lifetime in the form of inflation and taxes. This cycle of boom and bust created by oversupply of money in the financial system helps the wealthy who have the resources to take advantage of such distortions, while making the common working class population suffer. The bust always follows the boom of oversupply and the policymakers come up with reasons to prime the economy, making it a self fulfilling prophecy. No wonder the amount of money printed in the last decade overshadows the quantitative easing for the last century, and there are no signs of slowing down. None of the presidential candidates in their campaigns even mention the term fiscal deficit, as if America doesn't need to bother about these things, being the reserve currency it is immune to debt spirals. 

The more money we have in circulation, the less it's worth. This prognosis comes from the private debt creation capacity of banks in our system. In USA for example, banks have the ability to create debt at the click of a button. Regulation was brought upon following bank runs in the past, to self control the liquidity. When a borrower borrows from a bank, the bank simply creates the amount without the loan being backed by deposits. They simply create the debt and thus creating money supply. When the borrower pays back the entire amount with interest, the debt is cancelled and the bank pockets the interest as profit. This system has been designed to malfunction, as the ability to create debt while interest rates being zero enables the financial institutions to gamble with that money. The financial crisis of 2008 is a classic example of this oversupply of debt in the housing market. Banks created so much mortgage loans in the system without adequate checks and balances that when the borrowers were unable to pay back the loans, the system simply collapsed and the central bank had to resort to QE to bail out these banks and financial institutions.

Covid was a black swan event that saw governments and central banks panic around the world. Federal reserve swung into action and ensured money supply doesn't stop while people were stuck inside their homes. Paychecks continue to flow for households via government, doesn't matter they are employed or not. Many people received double paychecks, both from employer and the government. The federal reserve is still trying to suck out covid induced liquidity from the system causing stubborn inflation which refuses to come down even with fed rates around 5.5%, essentially putting the federal reserve between a rock and a hard place, whether to cut interest rates or keep at it. Jerome Powell in the Jackson Hole symposium sounded dovish and the market is hopeful of a 25 BPS reduction in the interest rates in September FOMC meet, but the federal reserve is is splits internally whether to go for a rate cut or let the rate cycle play itself out. The reason for this predicament is the strong jobs and consumption data which is keeping everyone guessing, if the time is right to go for liquidity easing or not. Nobody wants a raging inflation to return in all it's glory. Not only will it put the economy in a tailspin but would be detrimental for fed's reputation as well.

The debate over government spending has been a hot topic since the bailout culture reached next level in 2008. The trigger for which came much before when Nixon announced in 1971 that US dollar will no longer be backed by gold standard and seeds of insanity were sown. The logic that government should only spend so much that it could collect from taxes went out of the window and a new concept of print to prosperity was adopted. The initial impulse of the policymakers post the gold decoupling was to extend the government borrowing limit to meet war efforts in Vietnam. But when the government started crowding out the private borrowing due to it's bloating balance sheet, the interest rates started rising as there is only so much debt to go around, it had no option but to resort to printing money. The fact that US dollar was the global reserve currency did not put the currency into any negative spiral which must have been the case of any other currency. To facilitate this, the federal reserve started buying government bonds and created digital money by simply creating a record by the click of a button and transferring the amount to the government's account, giving the government resources to spend ungodly amounts of money on deference, welfare, healthcare, infrastructure etc, without having to think of the source of funds and the same behavior continues till date. Overtime the allocation to infrastructure, healthcare and social welfare reduced while defense, bailouts and other useless expenditure kept on increasing.

We can't deny the fact that modern monetary theory has helped fuel innovation and accelerated growth, since capital could easily flow towards new and upcoming ventures without any constraints. In fact, advisors to Nixon had made these recommendations in favor of unfettered capitalism. They believed America can create so much value overtime that the temporary fiscal imprudence shouldn't matter in the long run. But, as they say, "the path to hell is paved with good intentions," once the line was crossed, there is no going back and fiscal imprudence has become normal and a way of life. If we could have stayed on the path of economic prosperity and unlocking growth potential through money creation, it would all have been worth it, but instead the fiscal imprudence and debt creation has helped the big bloated financial institutions and hedge funds leveraging these instruments to pay themselves at the cost of unsuspecting middle class. The system has been subverted to work for the established and entrenched in a manner where policy-making is heavily skewed in favor of the wealthy.