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Here’s Why “QE Isn’t Money Printing and Does Not Cause Inflation” Are Not Only Big Fat Lies, But Red Herrings

hestonHere we go again with more self appointed experts repeating the big, pernicious misconceptions about what QE does and does not do. Let me put it bluntly. The ideas that QE does not cause inflation and that it’s not the equivalent of printing money are categorically false, regardless of how many times you see those points made, and on how many websites.  They are not true.

The idea that QE does not stimulate CPI inflation is correct. That is not the same thing as QE does not cause inflation and is not money printing. QE is money printing. It causes some kinds of inflation, but may not cause some types of inflation at a given time. Under other conditions it may. Under current conditions, it does not raise CPI.

QE stimulates inflation, only not the dumbed down definition of inflation encapsulated in CPI or PCE. If you dumb down inflation to exclude all the things that are inflating, then voila, there’s no inflation. However, QE is directly responsible for asset inflation. It was directly responsible for increasing money supply dollar for dollar, but it could not drive CPI inflation. Establishment economists and their supporting cast of lying shills deliberately exclude asset inflation from their definitions of inflation. So it appears that QE does not cause inflation as narrowly defined. If you believe that narrowly defined CPI is the only kind of inflation, then stop reading now. You’re in denial and presentations of fact and logic won’t change that.

Same if you don’t believe that QE is printing money. Prior to the central bank’s purchase of the securities the money did not exist. Subsequent to the purchase it did. Oh sure, the Fed didn’t print the money. It just created an electronic credit in the account of the Primary Dealer at the Fed. The Fed paid for the securities with money that did not exist prior to that moment. Now you don’t see it, now you do. Abracadabra, hocus pocus.

If the Treasury does not issue securities dollar for dollar in the amount of the QE, or if some players are concurrently selling securities and liquidating the margin they used to purchase them, as is currently the case, then it is true that there will be not be a concomitant dollar for dollar increase the money supply. Regardless of that, the Fed still printed the money. It’s just that other forces simultaneously extinguish the money, so that it appears that the Fed’s QE isn’t inflating the money supply.

Absent the simultaneous extinguishment of money, the money supply has inflated at exactly the rate at which the Fed printed the money. That was the case until the end of 2012. US money supply growth stopped in its tracks at that point because big banks and other market participants began liquidating Treasuries, paying off the margin used to purchase them, extinguishing deposits as a result. Prior to that, money supply grew in perfect lockstep with QE. Offsetting forces are now extinguishing money at near the rate which the Fed is adding it to the system.

As Treasury supply diminishes (and counterintuitively, simultaneously has lately become desirable to hold) the recipients of the QE seek other ways to employ the funds. That results in an increase in the prices of other financial assets, whether bonds, equities, or futures. This works every time without fail. When the Fed prints money, asset prices inflate, and if Treasury supply is restricted other asset prices inflate more.

This is basic supply and demand. Effective demand for financial assets is increasing because the Fed is pumping cash into the accounts of trading firms. They look for places to put the cash to work. For a while it was bonds. Bond prices rose and yields fell. Housing prices rose as a corollary of the falling yields. Housing is a perfect example of prices rising 10-15% per year but not being recognized as inflation.

For most of the past 4 years trading firms also bought equities, whose supply was increasing far more slowly than the cash the Fed was pumping into the accounts of these entities. Stock prices have been rising at astronomical rates, but that’s not recognized as inflation.

Why then are Treasury prices falling? The Fed is not the only actor pumping newly printed money into the pool. The BoJ, ECB, and all of the world’s central banks pump and drain funds from the same pond. The PBoC also does so indirectly as some entities to whom the PBoC lends also act in the world liquidity pool.

Lately the ECB has been shrinking its assets at a breakneck pace thanks to the paydowns of the LTRO emergency loans it issued at the end of 2011 and early in 2012. The securities purchased with that leverage are being liquidated. Capital/money is being destroyed. At the same time the PBoC has imposed tightness on its players, forcing liquidation and capital destruction in the world liquidity pool. The BoE has also been tight. These forces have counteracted the Fed’s direct money printing, making it appear this year that money printing does not result in increasing money supply.

One thing that I agree with is “QE does not affect the wider economy in any very helpful way: its effects if anything are contractionary, because of the hit to aggregate demand for some groups caused by the depression of interest rates on savings.”

This is an important point although I would not argue that QE is contractionary. The effects are a matter of transferring wealth. A benefit to one sector is a cost to another in a world that, like it or not, still functions according to the rules of double entry accounting. The accounts of the 7% are benefitting from QE. Everybody else is getting screwed. QE, i.e. money printing, creates massive distortions that eventually result in systemic reset, otherwise known as “collapse” or “crash.”

The conventional inflation/deflation argument is a red herring. It’s irrelevant. It’s the asset inflation, the financial asset bubbles, that are the problem today, just as they were the problem in the middle of the last decade. They’re a problem which few in the establishment, the same establishment that brought us the 2008 “adjustment,” recognize because of the narrow definition of inflation which they promulgate. A repeat performance of the “adjustment”  is coming and will keep coming until the lesson finally sinks in and the system is cleansed once and for all.

I’ve been watching the Fed’s operations every day ever since it started publishing them daily in 2002 along with its balance sheet and the commercial banking system balance sheet. I also closely follow  Treasury operations, revenues, and outlays weekly. As the famous financial philosopher L. Berra wisely said, “You can observe a lot by watching.” I invite you to watch along with me, and observe a lot.

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  1. Chauncey Gardiner

    Hi Lee,

    You might find the July 8 post by Frances Coppola of interest: QE Myths and the Expectations Fairy, posted on 8 July 2013


  2. Trueofvoice


    QE is not money printing because reserves are not really money. They can be used by banks and financial institutions only for purchasing government securities, clearing payments between banks and obtaining cash for customers. Reserves are used by banks for accounting purposes, an asset offsetting a liability. They are not used for making loans other than to other banks and reside solely on hard drives at the Federal Reserve.

  3. Jetlag

    Trueofvoice said: “They can be used by banks and financial institutions only for purchasing
    government securities…”

    So it looks like money

    “…, clearing payments between banks …”

    It walks like money

    “and obtaining cash for customers.”

    Goddamn it even quacks like money!

    But isn’t money?”

  4. Pater Tenebrarum

    You are conveniently forgetting that the Fed does NOT ONLY create bank reserves, but also directly creates deposit money to nearly the same extent. Broad money TMS-2 (which does NOT count bank reserves as money) has increased by more than 80% since Q3 2008. That is plenty of monetary inflation (more than in any other such short time period in the post WW2 era). The details of the mechanics of QE are described here:

  5. Trueofvoice

    No, that is not correct. The Federal Reserve does not credit demand deposit accounts when it buys a security. The Fed credits the bank’s reserve account only, and the bank credits the demand-deposit account. There is no net change in private sector financial assets. You are ignoring that M2 has most certainly not tracked with tripling of the monetary base and you seem to be confused on your definition of inflation, which is in reality a continuous rise in prices, not an increase in what you call the “money supply.”

  6. Trueofvoice

    That is correct. Reserves are not money, only a unit of account. I wonder how mamy greenbacks you’d hold in your pocket if you could only use them for three highly limited functions?

  7. Frank

    Also the the amount of money invested in credit cards is deflating faster than the fed can print to stop it. You never see anyone that pushes precious metals point this out. It makes me wonder why.

  8. Frank

    Have you noticed how quiet he’s gotten since April? It makes me wonder if he feels the precious metals will go lower. In one his videos, I called him out for using a chart that was out of date. That was the last time he posted something.

  9. I.V. Baker

    But does not crediting a ‘reserve account’ allow a bank to use capital for other purposes rather than placing it into the ‘reserve account’?

  10. Trueofvoice

    That’s a good question. The answer is that capital and reserves are non-fungible; they can’t be exchanged for each other. The Fed is the monopoly supplier of reserves to the banking system, which are used for the activities I listed above. Each bank has its own reserve account on a hard drive at the Fed, which the Fed denits or credits at will. Capital is a separate requirement by the Fed that banks must acquire independently and is intended to offset losses the bank may take when loans go bad.

    During the private banking era yes, money was money and could be moved around, swapped and substituted. But this changed radically in 1913 with the Federal Reserve Act which gave the central bank monopoly control over interbank liquidity and interest rates (initially each regional bank set its own interest rate, but subsequent legislation charged the Fed with setting a single rate for the whole country.

  11. Lee Adler

    The money supply increases dollar for dollar with each dollar the Fed injects into the system when it purchases securities. The reserves materialize on the Fed’s balance sheet only as those deposits are created to pay for the purchase. So QE is in fact, money printing. The money did not exist before the Fed credited the account of the seller. It’s basic double entry bookkeeping and it takes place on the Fed’s balance sheet as two entries, and in the banking system as two entries. I don’t know why you refuse to see that, but it’s your prerogative to be adamantly wrong if you want to. It does not change the facts.

  12. Wackfuk

    Does a certain amount of the FEDs money not appear in the real economy until the government pays back the bond that was purchased using QE

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