Nobody Behind the Curtain — Cookies and Milk — Judo — And NOT Repeating History

by Jeff Brown

Real Estate Investments Broker

Author website

What went on with the speculation about the Fed Funds Rate all last week, and will surely intensify today and tomorrow, has been almost, but not quite analogous to the scene in The Wizard of Oz, when we discovered there was a man behind the curtain. The characters were told to ignore him — by the guy behind the curtain.

Dr. Bernanke is not in any way analogous to that guy.

Bernanke has, in my opinion, played this whole melodrama out while hiding in plain sight, instead of behind a curtain. He’s using what I’m now calling Bernanke Judo. That is, he’s using the other guy’s energy against him, which keeps them off balance. Nobody is paying attention to what he’s really been doing the last few weeks, because he’s got everyone watching his interest rate hand. Meanwhile, he’s been free to play out his real agenda with the other hand.

The almost humorous part of his plan is how simple it’s been to execute — again — in plain sight.

First he treated all the whiners on Wall Street like petulant children by giving them all cookies and milk. It came in the form of a cut in the Fed Discount Rate. Everyone smiled, and the warm and fuzzies returned to the land of bulls and bears. Confidence was bolstered.

Then they all took a nap — as he knew they would. He knew exactly how to manage their fears and frustrations. Sure, they kept complaining, but they kept it down to a low, manageable roar. They figured they’d finally thrown enough tantrums to get their way.

Bernanke also knew that beyond everything technical and debatable, the one thing he couldn’t let fall below the critical floor, was confidence in the economy as a whole. He cut the discount rate.

So, what’s he been doing you haven’t heard much if anything about the last few weeks? Making history, that’s what.

I can’t find a two week period in the last 40 years where the Fed has increased money supply by over $110Billion — can’t find it. That doesn’t mean it hasn’t happened, but you have to agree, that’s a monster increase in our money supply. (That’s M2 for the econo-nerds.)

This move will, (I theorize) spur the stock market — and please believe me, I don’t say this lightly — to heights we haven’t dreamed of. That kind of added liquidity in this set of circumstances relegates whatever Bernanke chooses to do with interest rates tomorrow — anticlimactic. The only argument that makes rate cuts more likely than not, is the absolute requirement of — confidence.

Bernanke has already applied what he believes is the primary medicine, which is to massively inflate the money supply. Bet you haven’t been reading about Demon-Inflation have you? Of course you haven’t.

Like I said, he’s hiding in plain sight.

He’s studied the Great Depression like no other Fed Chairman before him. He believes in his DNA the Real Estate market’s fall in 1927 was the first domino to tip over — which he believes lead directly to the crash of 1929. What’s worse, he says the Depression was probably caused, and made much worse by the actions of the Federal Reserve, only about 16 years old at that point.

They simultaneously raised interest rates while contracting the money supply!

That’s akin to treating a broken bone with a sledge hammer. Just stupid — or to be kinder — economically naive.

The tipping point for me came when I saw the report on the massive money supply increases last week. Bernanke, while hiding in plain site, has been executing his solution right in front of us. Meanwhile, everyone is running around worried about the Fed Funds Rate. The only reason we’re probably gonna see that rate cut tomorrow, is because Bernanke wishes to boost confidence. In other words?

Another round of cookies and milk for everyone!

As far as he’s concerned, he’s given our economy the primary medicine it needed so badly. He did it first, and with no real discernible fanfare.

Are there other very sound arguments for cutting the Fed Funds Rate? Of course there are. I’m sure Bernanke can make all of them — pro and con. But if you’re waiting for him to go all Greenspan on us with interest rates, you should order out, cuz you might have a long wait.

Also, with the supply of money increased this much, which way would you expect the various interest rates to go — all by themselves? This will plausibly result in downward pressure on rates, avoiding the need to cut the Fed Fund Rate to 1%. Remember, in large part, that’s why we’re where we are today.

Will it prove to be the catalyst to a very solid recovery? Will the stock market move to heights not yet said out loud in public? (Over the next 3-4 years.) In my opinion, yes to both. Will many give the credit to rate cuts? Did the sun set in the west yesterday? In my opinion, they’ll be incorrect. That said, I don’t mean to imply rates aren’t a crucial factor in the big picture of where we find ourselves. I simply believe they’re secondary to money supply. Rate cuts will of course prove to be crucially important to overall confidence, and the market, but increasing the money supply spectacularly is what will have done the heavy lifting.

Bernanke isn’t afraid of the ghost of Inflation Past.

There’s room enough for an 18-wheeler to disagree with me here. However, given Bernanke’s apparent belief in what caused the Great Depression, and his moves so far, I’ll stick with this scenario.

Again — just my opinion.

That, and my heavily armed Starbuck’s card will get us some coffee (no milk, please) and a big cookie.