Federal Reserve Chairman Ben Bernanke's approach to stopping the financial crisis by printing money is wrong, as the private sector is still unable to pay its debts, Richard Duncan, the author of 'The Dollar Crisis: Causes, Consequences, Cures' wrote Friday.
“Bernanke believes in the Monetary Theory of the Great Depression, which holds that the Federal Reserve could have prevented the Great Depression by stopping the US money supply from contracting during the early 1930s,” Duncan wrote on his Web site.
“The Monetary Theory of the Great Depression is incorrect, however. Consequently, the Fed’s Quantitative Easing policy is more likely to exacerbate than resolve the global crisis,” Duncan argued in an article.
“The Great Depression was caused by the inability of the private sector to repay the debt it incurred during the Roaring Twenties, just as the economic crisis that began in 2008 was caused by the inability of the private sector to repay the debt it incurred between 1995 and 2008,” he said.
Printing money and trying to prevent a contraction of the money supply does not change the fact that the private sector cannot repay its debts, said Duncan, who believes when an economic upturn begins it follows a path that eventually leads to excessive investment gluts and falling product prices, while overly inflated asset prices become unaffordable and begin to fall.
“Falling product prices and falling asset prices lead to business distress and insolvencies; and business failures lead to bank failures and, hence, to the destruction of deposits. Credit contracts and the economy enters recession,” he explained.
To prevent a contraction in credit, the Fed must implement measures that "turn bad loans into good loans" by stopping the private sector from defaulting on its debt, which is what it is hoping to achieve through quantitative easing, according to Duncan.
The quantitative easing stimulants only have effect so long as the printing press continues to run, he warned. "When the Fed stops creating money and buying assets, asset prices will fall, wealth will evaporate, spending will slow and the economy will slide back into recession. It is only necessary to consider the events of 2010 to see that this is true.”
“The US economy has become dependent on the stimulus provided by paper money creation. Stock prices, bond yields, retail sales and employment now all move up and down in line with the Fed’s program of liquidity injections," he wrote.
"When governments create money, there are undesirable side effects, however. First, in addition to causing asset price inflation, printing money causes food price inflation as well, putting at risk the very lives of many of the two billion people on this planet who live on less than $2 per day."
"Second, it contributes to the deindustrialization of the United States as it shifts economic activity from healthy manufacturing and production to services and consumption paid for with capital gains on unsustainably inflated asset prices. Third, it rewards the banking industry for activities that fundamentally damage the health of the economy," Duncan wrote.
“Driving economic growth by paper money creation is not sustainable and will end very badly sooner or later – unless there is a complete policy rethink about how government spending and money creation can be used to restructure the US economy and restore its viability,” he added.