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A Stress Test For America’s Banks

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From the beginning I’ve been an open supporter of Bernanke’s decision to pursue quantitative easing as a strategy for promoting short term liquidity and long term growth, because at the time it made plenty of sense. America’s financial institutions squandered their initial recapitalization funds on private jets and executive severance packages with taxpayer dollars against the behest of the FED . QE meant that the Federal Reserve was going to handle the situation personally, taking on fair levels of risk in the hope that with enough cash on hand, banks would start lending and Americans could finally get back to work. Three years and two trillion dollars later, Corporate America sits comfortably atop a Mount Olympus of inelastic demand with bulging balance sheets of billions in low interest cash and millions of unemployed jobseekers. As the FED gears up to push $40 billion or more a month onto the economy I grow more concerned, because giving bankers money without any legal authority to make them use it just isn’t working. So what’s the world’s most powerful banker to do when all his cards are on the table? Simple, he takes them back. 

Instead of continuing to put billions in new cash on the market for corporate America to stockpile, Bernanke should give a pop quiz of sorts for the financial system to 

  • Determine whether or not continued injections of cheap capital are required to provide liquidity for credit markets 
  • Ascertain the true cash position and capital reserves of systemically relevant financial institutions
  • Create conditions that would dminish Wall Street’s confidence in accelerated levels of monetary stimulus. 

To conduct such a test, the Federal Reserve should reduce its monthly asset purchases from $40 billion per month, to $15 billion while simultaneously raising the Federal Funds Rate target range from its current 0.00-0.25 percent to 0.75-1.00 percent. This strategy contracts the stream of government capital flowing into the economy while making the borrowing of money from Federal Reserve Banks more expensive. Ideally, the FED would initiate changes at the beginning of Q2-2013 and continue them until the end of Q3. 

The overall aim is to force banks into a position where they would need to dig into their capital reserves and add risk to their balance sheets. The test intentionally contracts the markets primary supply of liqudity with a $25 billion reduction in QE spending, meaning that the gap would have to be compensated for by the financial sector. Then the FED sells some its risk back onto the market to raise short term interest rates, which will expose the real strength of the banking sector, as interbank loan interest would increase in relation to Federal Funds. Markets alongside the FED would be able to assess the cash positions and capital reserves of the nation’s banks, as institutions with ample reserves in cash will be able to take on more risk through lending, and also will be able to borrow at lower interest rates. Banks unable or unwilling to cope with higher rates would be discovered and the central bank would have a clearer idea of where to lend, rather than filtering capital through the entire banking system. 

Given Bernanke’s committment to accomodative policy until America makes significant headway on unemployment and growth, it’s unlikely the Federal Reserve would pursue this course. However, QE’s power to catalyze growth throughout the broader economy wanes with each use, as firms prefer to simply garrison the cash rather than invest it through job creation and hiring. With Congress embroiled in the debate over tax and entitlement reform, fiscal policy to address this problem isn’t likely to arrive anytime soon. This problem falls to the FED to resolve, and something has to give.

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About Alexander J Smith III

  • pablo

    I suggest James Rickard’s “Currency Wars”, or Max Keiser, or Catherine Austin Fitts regarding the FED and its policies. All you get from Alex Smith is sycophantic ravings with no substance whatsoever.

  • Alexander J Smith III

    -and here comes Pablo a tro-tro-trolling along lol. I wonder if you even read what people wrote before you comment. Clearly not since you can argue the same position, regardless of the content lol.

  • pablo

    You go Alex :)

  • pablo

    I almost forgot! Your the adult! lol

  • Alexander J Smith III

    -Pablo

    So do you have an actual argument for me to refute this time or will this be yet another repeat of you not having a real argument and me calling you on it.

  • Igor

    Pretty good idea to unlock the money that bankers and capitalists are sitting on that they refuse to deploy. So far they’ve simply betrayed the American public. Nevertheless, many Americans continue to believe that investors must be bribed into investing, which has just made investors spoiled.

    Monetary policy only has so much elasticity before it finally snaps. Better to enforce good fiscal policy before that happens, but as long as republicans defend the indefensible tax cuts to the rich we will continue to have this problem. Then one day the whole system will collapse into cycles of inflation and deflation that make nonsense out of the whole society, let alone the economics. Resulting in revolution in the streets.

    The House republicans simply have no idea of the fire they are playing with and the disastrous consequences.

  • pablo

    Alex,

    I threw out several persons of whom I happen to respect enormously concerning the FED. Since you did not bother to comment on them, why should I comment on your writing?

  • Alexander J Smith III

    -Igor

    Thanks for commenting as always. The FED has to start pulling back because handing out money isn’t convincing anyone to spend it, and with Congress looking deadlocked over taxes and entitlement reform, the FED is about the only body that could act in time to really get companies to use their reserves to hire or invest. Of course the financial could just start the process themselves, but they seem very content doing just the opposite

  • pablo

    Igor,

    The democrats are as much in bed with the financial criminals aka the FED, Jpmoran-chase-wells fargo-goldman sachs as the repulicrats. What you are witnessing is the fleecing of the public wholesale and what will be left will be us all being renters,debtors, and serfs.

  • Alexander J Smith III

    -Pablo

    You have mentioned those authors before, but as usual you add no original analysis beyond the name drops. I have no reason to try and refute the sum of various authors works on the FRS, especially when this particular piece isn’t intended to so do. So, as before, feel free to give your opinion if in fact you have something of substance to contribute.

  • pablo

    Fact of the matter is Alex, I have never mentioned Catherine Austin Fitts on your pieces, nor “Currency Wars”, please show me my previous quote if I am wrong!

    I do not need to offer any original analysis pal. And I could give a rat’s ass what you think of me one way or another.

    I do not need to read your articles to understand what QE3 is, nor Inelastic Demand. I already have more than enough tools at my disposal to decipher the code.

    I find your writing about the FED to by sycophantic, and condescending, hence my sarcasm. Next thing you will be arguing is that the meeting at Jekyll Island never took place! lol

    You go Alex :)

  • Alexander J Smith III

    -Pablo

    So your position is that you don’t need an argument of your own because you don’t care what I think of you, and you feel that I’m condescending and sycophantic. Interesting that you’ve taken this line before when I was in favor of a FED policy and again here when I’m against it. A bit contradictory no?

    Also curious, is you bringing in the What Is column which has little to do with this article and is clearly intended for an audience that feels that they don’t understand or want to know more. But of course actually getting to that point would have only required you to read the title and the tagline.

    You have every right to be sarcastic and insulting with little reason other than a clear disagreement with what I have to say, but I’m not sure why you would expect me then to take anything you have to write here seriously lol. I just wonder why you bother to troll me at all if you care so little about what I think.

    Oh and one more thing:

    You from “The Bank’s Statement”: ” I suggest that if you do want to get educated on this monstrosity you check out Max Keiser”

  • pablo

    “You from “The Bank’s Statement”: ” I suggest that if you do want to get educated on this monstrosity you check out Max Keiser”

    I specifically left out Max Keser’s name in post 11 Alexander,because I am intelligent, thus I can remember that I did in fact mention him previously. You on the other hand can’t quite grasp that, and you mention Keiser, showing off your reading and comprehension skills, or should I say your lack thereof.

  • pablo

    And just to press the point Alexander you did in fact say:
    “You have mentioned those authors before, but as usual you add no original analysis beyond the name drops”

    Notice the S in author, that’s plural meaning more than one. So the fact remains that I never did mention Catherin Austin Fitts nor “Currency Wars” just as I said.

    There are numerous sources of basic remedial reading comprehension material online. I suggest that you source some and take use of it.

  • pablo

    I learned a long time ago to never engage someone in dialog such as yourself Alexander. Hence my refusal to do so in any meaningful fashion.

    I troll you put it because you put out information that I find repulsive on its face, that is your adoration of the criminals that are running the banking system. Thus I occasionally make a pointed reference to your ignorance as perhaps a warning to others that may take you seriously.

    The FED is a Ponzi scheme plain and simple. The fact that you cannot grasp this basic concept with our without my engaging you, suggests strongly to me, that you are either just plain woefully ignorant or one of their shills. I suspect the latter.

  • Glenn Contrarian

    pablo –

    The FED is a Ponzi scheme plain and simple. The fact that you cannot grasp this basic concept with our without my engaging you, suggests strongly to me, that you are either just plain woefully ignorant or one of their shills. I suspect the latter.

    The very fact that you pronounced judgement based on nothing more than your opinion – and that’s all that is, is opinion – says much more about you than about Alexander. The Fed may or may not be a Ponzi scheme, but you should be more careful – you are human too, you know.

  • pablo

    Yes Glenn, that’s true, just as man made global warming is an opinion, or as its known in the scientific world a theory. My theory is the FED is a Ponzi scheme. I should be more careful about what Glenn?

    I know the difference between theory and belief. For instance it is your belief that Ronald Reagan was a great president. And it is my belief that Reagan was up to his eyeballs with Rich Mountain Aviation along with his cohort William Jefferson Clinton. But hey that’s just a belief! However if that belief is true, and I “believe” that it is, it makes both Clinton and Reagan nothing more than partners in crime.

  • Alexander J Smith III

    -Pablo

    So let’s recap:

    You admit that you troll me, not that I didn’t already know, but still that’s honesty I can respect.

    You submit nothing else to the discussion save the statement that you disagree, the substance of which I’ve yet to hear, and a plethora of arguments as to why you choose not to argue.

    You, yet again, misrepresent my case entirely and toss out wild, unfounded, judgement on my character

    And last, you close with yet another unsubstantiated conspiracy theory, contributing no evidence to support such a claim, and then attempt to present this claim as if it’s fact.

    And for some reason I’m supposed to take that, which amounts to mere pseudo-scholarship playacting at analysis, seriously?

    If the idea behind trolling me was to as you put, “make a pointed reference to your ignorance as perhaps a warning to others that may take you seriously”, I’m not so sure how well that’s going considering I’ve dismantled any half-serious point of contention you’ve ever raised on what I’ve written here. If anything, you’ve done little more than demonstrate your unparalleled ability to complain. Not to say you can’t troll, but seriously, can’t you whine someplace else?

  • pablo

    No Alexander I prefer to whine here thank you.

  • Boeke

    Hey pablo: every enterprise in America is a ponzi scheme.