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Biden and The Fed in Fantasyland (March 10th, 2023)

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Along with the increases in the federal funds/discount rate over the past year the federal reserve has been reducing the size of their balance sheet, which is the sum of their holdings, and to much less fanfare than the interest rate increases, but it is equally as important. We have spoken about this on the show before but I want to cover this more in depth and illustrate how much of a tightrope the fed and Chairman Powell is walking.

The M2 money supply, or the sum total of all cash, checking, savings, CD's less than $100k, Keough accounts, and money market funds less those held in IRA's, the most liquid of monetary accounts and instruments, still sits at about 35% higher than it was in February 2020. They were literally printing money and shot gunning it out at a record rate.  

At its height, the fed was purchasing $80 billion of US treasury bonds and $40 billion of mortgage-backed securities monthly, driving real rates down to near zero and expanding its balance sheet to a bloated figure of just over $9 trillion, the highest ever by a whole lot. In fall of 2021 the fed started reducing the amount of its bond purchases, also known as tapering, and reduced the amount of its repurchases, which is when the fed reinvests bond repayments and prepayments back into the market.

In March of last year, the fed began reducing the size of its balance sheet, selling off $95 billion a month of bonds and mortgage-backed securities. That excess supply in the bond market raises rates just as much as the fed purchasing bonds lowers them. We call that quantitative tightening. The laws of supply and demand govern the bond market just like any other market.

The more bonds for sale, the lower the price, the higher the yield, which is a roundabout way of saying higher rates, especially for mortgages. 

Quantitative tightening reduces the money supply, and that is happening right now, for only the 5th time since the end of the Civil War. Each previous time the Fed has reduced the money supply a depression followed with double digit unemployment rates- the 1870's depression with 14% unemployment, the panic of 1893 with 18% unemployment, the 1921 depression with 11% unemployment, and the great depression which started in 1929 and lasted 10 years with a peak unemployment rate of 25%.

When the money supply is contracting and interest rates are rising the result in the past has been a deflationary crash, which history has shown can lead to a financial crash and runaway liquidation of assets.

The template for this is the depression of 1921, which followed World war 1 and the Spanish Flu pandemic. The economy crashed literally overnight. All it took was a decrease in the money supply of 2%. The fed has decreased their balance sheet, and with it the money supply, by 2% in the past year. History is very clear. The fed is sailing into dangerous waters. 

There is a consensus in political circles and the media that this is similar to the 1970's early 80's inflationary times and the Volker fed. But this time is different. Even with the inflation of the late 70's/early 80's the money supply kept growing. It never contracted. 

Now we have rapidly rising inflation, with rapidly rising interest rates, and a contraction of the money supply. History has shown us that this doesn't turn out well. A $31 trillion deficit, $7 trillion of new government spending, a younger less experienced workforce, a rapidly rising population, an inverted yield curve flashing recession warnings, inflation, asset bubbles, and the fed's desire to reduce the money supply by 33% over a 3 year period, combined with a tax and spend White House, skyrockets the risk of a deflationary depression.

Obviously, the fed will keep an eye on all this and intervene if the ship gets too far off course.

How can they do that? More quantitative easing and more government spending are obvious but history also shows us that another great way of increasing the money supply is through war. World Wars 1 and 2 are textbook examples, as we all turn our eyes toward the situation unfolding in Ukraine and Europe, Chinese saber rattling over Taiwan, and the potential powder keg in the middle east.

And while Chairman Powell and the fed central bankers try to walk a tightrope over a burning hot cauldron, Joe Biden and the tax and spend democrats want to throw rocket fuel on the fire.

Biden's budget proposal released yesterday was perhaps the most economic illiterate, tone deaf, and ideologically rigid budget proposed by a president in our lifetime. Just unconscionable.

Biden wants to grow the federal budget by about 7%, which outpaces GDP, GNP, real worker wages, inflation, and the national savings rate, at a time when inflation is sitting at 6.4% and grew .9% in January alone, and at a time when the fed is shrinking the money supply and raising interest rates.   

Some of the highlights of this lunacy include a 25% minimum tax on people with $100 million, 39.6% capital gains tax on people earning $400k a year, a 28% corporate income tax, a 3.8% surtax on investment income, which is a tax on everybody who has a 401-k, 403-B, IRA or any other retirement and investment plan, and my personal favorite of this idiocy, a 4% tax on stock buybacks. So what Joe Biden is telling you is that you can't retire debt (which is what stock actually is) and make your company healthier and more valuable without paying him 4%. Are you freaking kidding me?  More Biden campaign lies, more and bigger government, more damage to our families, businesses, and communities.

I can't think of a better way to kill investment, small business, innovation, kill the lower and middle classes, and consolidate wealth into the upper classes through entrenchment, than enacting this idiocy. Biden wants a permanent marriage between big business and big government, expanding and consolidating the power of both through heavy handed taxation, ESG policies, and crushing monetary policy, in other words, an oligarchy, not a representative republic, which it sure seems like we are speeding toward. We currently have one of the world's worst percentages of self-employed individuals and entrepreneurs, just like how oligarchs and their uniparty servants like it. And in all that, there is no real plan to increase energy production and efficiency, which would be a huge boon from both an economic and national security standpoint.

Where are Biden's other misplaced priorities? His new budget mentions equity 63 times, transgender 8 times, and queer 7 times. But fentanyl, the drug made by Mexican cartels from Chinese ingredients that kills 100k Americans a year, was only mentioned twice. Racism, gender and sexual dysphoria, and death and despair is what Biden wants for our youth. One side is corrupt but the other side is corrupt, crazy, and evil. You can decide which is which. 

Hopefully the GOP congress holds the line, and points out the ramifications of tax and spend idiocy, and Biden's far left destructive social policies,  over and over, until everybody gets it, as we do here daily. 

We need common sense, pro-growth, pro-family, pro-middle class, pro-entrepreneurial and small business, and pro-American greatness policies, now more than ever. We need Trump, now more than ever. As Chris so often has said, the issues are coming back to Trump and to a lesser extent the GOP. Hopefully this time we the voters wake up and get it right before generational financial damage joins generational social and cultural damage as ramifications of democrat and uni-party governance.  

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