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Does fed print money?


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#1 greenie

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Posted 29 December 2006 - 03:46 PM

Folks, Those of you, who believe Fed constantly keeps printing money without any other constraint are clueless about how open market operations work. There are many variables, but ultimately Fed has to choose only one that they can fiddle. Our Fed has chosen to control the variable called short term interest rates. What is the role of open market operations then? Suppose the short term interest rate Fed announces is 5.5%, but the true market rate is 5.25%, implying there is less demand and more supply of money. Fed has to take money away from the market to make the market rate back to 5.5%. So, the short term interest rate is the only variable, and the rest of the open market operation revolves around it. Can the Fed print unlimited money tomorrow, if they wish? Not without also lowering short term interest rates significantly. So, Fed's open market operation is just a response from them to the market's demand, not the other way. You will understand the folly of Fed's operation by comparing them with OPEC and the interest rates with oil prices. Let's say interest rate of 5.5% is equivalent to $55/gallon oil. Fed-OPEC wants the price to be $55 and the market price is $52.5. The OPEC has to cut supply to get the price to what they want. Once you do that comparison, many things will be clear to you. What was the peak oil price during 2000 boom ? ~$35-$40/barrel. What is the peak price now? $65-70/barrel. Demand for oil is increasing over time, when you compare peak of two booms. Now look at Fed's operation. Their peak price (interest rate) of Fed-oil during 2000 boom was $65/barrel (6.5% interest rate) and now it is $55/barrel (5.5% interest rate). That means demand for Fed's money is going down over long term. When demand for money goes down, it results in deflation. As simple as that. What happens when Fed's rate goes down to $0? That is like giving oil out for free but still nobody wants it. The economic condition has to be so poor that people do not have any use for oil. For example, if many people do not have job, they will not drive even if oil is free. Think through it and you will understand how the system works, and how silly 'Fed printing money' (OPEC supplying free oil) notion is.
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#2 dcengr

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Posted 29 December 2006 - 03:54 PM

I'll find the source I read on money supply and rates later.. but from what I read, Ben is doing something different. Unlike some of the past fed, Benny sort of understands the psychological importance of the public rate value and the money supply. Hence, on the public front, he's talking like raising rates (using inflation as an alibi) while on the private front, he's making more $ available. This became successful to a point where he's recommeded the tactic to the japanese to get them out of their recession. The mechanics of how he does this was explained, but I can't recall off hand. But I suggest you do a google search on the japanese fed and ben and you may find the appropriate article.
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#3 OEXCHAOS

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Posted 29 December 2006 - 04:10 PM

Greenie,

Reserve Requirements

http://www.federalre.../reservereq.htm

Unless you think that available cash won't get loaned by banks who want and need to make money, the severe deflation argument isn't a strong one, IMO.

Mark

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#4 greenie

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Posted 29 December 2006 - 04:29 PM

Unless you think that available cash won't get loaned by banks who want and need to make money, the severe deflation argument isn't a strong one, IMO.

Mark


Thanks Mark. Of course, banks will not be lending out money, because people will not be able to borrow them.
That is how deflation always happens.

Here is the mechanism of how that can happen. Let's say Fed tomorrow lowers interest rates to 0% potentially allowing homeowners to refinance. Because the house prices are falling, those who are maxed out on home loans (ARM borrowers) will need to bring cash to the bank to be able to refinance. Additionally, the subprime lenders are closing shops, implying that they will not be able to borrow with no down.

Where will a California dude maxed out on house loan bring $200,000 from (20% price or decline) to refinance his house?
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#5 OEXCHAOS

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Posted 29 December 2006 - 04:35 PM

There's more to this country than Ca., yanno. Also, most folks have not bought their homes at to dollar in the past couple years. So, the bank will take a bath on some really bad loans, work out with most of the others, and all those with equity will roll down to super low rates mortgages and spend the excess on stuff...OR folks like me and others will buy cheap housing with cheap money to house all those poor sods who lost their homes due to rotten financing deals and poor judgement. Remember it's NEVER as simple as it looks when you're looking at an economy. They are CHAOTIC SYSTEMS. Mark

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#6 dcengr

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Posted 29 December 2006 - 04:51 PM

Unless you think that available cash won't get loaned by banks who want and need to make money, the severe deflation argument isn't a strong one, IMO.

Mark


Thanks Mark. Of course, banks will not be lending out money, because people will not be able to borrow them.
That is how deflation always happens.

Here is the mechanism of how that can happen. Let's say Fed tomorrow lowers interest rates to 0% potentially allowing homeowners to refinance. Because the house prices are falling, those who are maxed out on home loans (ARM borrowers) will need to bring cash to the bank to be able to refinance. Additionally, the subprime lenders are closing shops, implying that they will not be able to borrow with no down.

Where will a California dude maxed out on house loan bring $200,000 from (20% price or decline) to refinance his house?


Greed is more powerful than fear.
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#7 Chilidawgz

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Posted 29 December 2006 - 05:07 PM

Greed is more powerful than fear.


Lol, you haven't been adequately frightened yet!!

(I am thinking tiny marbles withdrawn into your body :lol: )
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#8 dcengr

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Posted 29 December 2006 - 05:13 PM

Greed is more powerful than fear.


Lol, you haven't been <a href="http://www.google.co...uately&spell=1" target="_blank"></a>adequately frightened yet!!

(I am thinking tiny marbles withdrawn into your body :lol: )


If fear was more powerful than greed, we wouldn't have criminals, or those willing to speculate :).

Hence greed is always more powerful than fear. There will always be someone willing to do sub prime mortgages as long as $ is available.
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