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How Is Quantitative Easing Going to Get People Borrowing?

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You can lead a horse to water, but you can't make it drink. The Fed can give money to banks to lend, but they can't make consumers or companies borrow it.

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Ah. Channels and policy transmission mechanisms. Now we're getting somewhere. Ahead of Jackson Hole, former Minyanville editor-in-chief Kevin Depew (@kevindepew) shared this chart on Twitter:



You can see from the chart, a number of these channels by which monetary policy is transmitted are broken. Still. In Chairman Bernanke's answer to da Costa's question, we really see what the Fed wants to do: Its best chance at kick-starting a recovery right now is to make people feel wealthier. And if they feel wealthier, they will want to spend more, and borrow more money while they do it. This is all about trying to instill confidence in the broader economy and in the process, re-establish the Fed's transmission mechanisms (i.e. credit). Cullen goes on to explain why Chairman Bernanke's view is misguided, and I agree with him.

The Chairman's hope is a false hope. Especially when we've seen successive bubbles in stocks and real estate burst, wiping out valuations people pinned their hopes and dreams on. As Peter Atwater talked about in his book, many times confidence breaks down at the worst possible moment. Confidence isn't needed at troughs, it's needed the most when we're over-stretched, over-leveraged. Atwater is fond of saying we reach the most at the top, because at that moment, we feel that those peak conditions will apply to everyone, everywhere, forever.

At those moments of peak confidence, we feel that downside risk isn't only miniscule, we feel it doesn't even exist. And then we get blindsided by a bus and that confidence is shattered. The question is how do you rebuild confidence once it has been broken? The Fed would be better off building a plane big enough for all of us to fly from New York to Hong Kong (it's a 16-hour flight) or from Los Angeles to Singapore (even longer at 18 hours) and share a dream with us, Inception-style, that goes four layers deep into our subconscious minds and plants the idea in our heads that we should be full of confidence and it's OK for us to spend and borrow more.

So let's consider housing for a second and how that view of housing affects Fed policy. If people change their view of housing from "housing as an investment" and "housing prices never fall" to housing as simply "shelter" -- four walls and a roof -- what then? You're probably not going to care about borrowing to buy a house if you can just rent one instead. Or if you do borrow, you're not going to borrow as much as someone who sees their house as an investment. These are individual choices people make, but they are definitely shaped by the level of confidence we have in the world around us.

Now, let's a take a look at the personal savings rate:



You'll see that right around the time when house prices peaked, the savings rate bottomed. Now, the savings rate has been in an upward trend for about seven years. We've made a break from the old patterns of consuming and borrowing, and as these have become more and more entrenched, you can see just what kind of headwind the Fed is facing if they want people to revert to old behaviors with respect to spending. This is what makes the Fed's latest decision so difficult to understand. They can leave monetary policy extremely accomodative. They can go out into the market and buy all sorts of assets, giving them liquidity that may not have existed without their purchases. But once they give that money over to the banks, it's all out of their hands. The Fed can give money to banks to lend, but they can't make people borrow money from banks. And as the chart shows, people don't want to borrow. Companies don't want to borrow, either.
No positions in stocks mentioned.
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