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Thursday, April 12, 2012 9:54 AM


Fed-Fools, ECB-Fools, and the Illusion of Time; Spain Where Greece Was Two Years Ago


Central bankers respond to every debt crisis as if they were all created equal. As such, they are willing to pile debt and promises upon debt and promises.

In cyclical recessions the strategy eventually "works" using the term loosely.

In reality, such kick-the-can strategies will eventually blow sky high, which is precisely where we are today, with Bernanke is scratching his ass, wondering why his policies are not working.

Any thinking person will realize this is not the typical cyclical recession, but rather a once-in-a-multi-generation debt deflation structural problem. However, the Fed-fools led by Ben Bernanke are trapped in academic wonderland and simply cannot grasp the blatantly obvious.

Welcome back to the crisis!

Wolfgang Münchau on Der Spiegel says Welcome back to the crisis!

About one trillion euros, the ECB has pumped into banks to stabilize the situation. But the idea is to buy time so that proves to be illusory. In Spain the situation worse, there is nervousness in financial markets. We are now back to the point where we were before Christmas.

Welcome back to the crisis! It is not long ago, when Germany in Brussels refused to further increase the reserve fund on the grounds that the markets have finally calmed down. Surprisingly this is not. Two weeks ago, Europe was in the all-round optimism. In recent days, the markets collapsed again. What has changed in recent weeks?

There have been two convictions enforced. The first relates to Spain, the second is the European Central Bank . The markets are now expected to Spain later this year needs a bailout. If that happens, just the increased bailout will prove to be too small. In a few months, we are again faced with the choice either to increase the screen again, or risk a rupture of the euro area.

Spain is now where Greece was two years ago

The markets no longer believe in a stabilization of Spain's debt. It is no coincidence that the last panic attack just in the markets a week passes in which the Spanish Prime Minister Mariano Rajoy saving measures announced by ten billion euros in 2012, by "efficiency" in the health sector and in schools. Spain is now where Greece was two years ago.

The second reason for pessimism in the markets is changing perceptions about the policy of the European Central Bank (ECB). In December and February, the ECB pushed good one billion euros of liquidity into the banking sector. The markets reacted initially with euphoria. The idea was that the banks borrow cheap money with a repayment period of three years from the ECB. So it would buy short-term bonds to their governments and thus stabilize the bond market. The ECB was allowed for legal reasons, the bonds do not buy themselves. So they chose to go through the banks.

The ECB policy was like a drug

This theory has a number of hooks, which have now become apparent. The first is that the action proceeds indirectly and therefore expensive. Only a fraction of the money actually flows into the bond purchase.

The ECB's policy has thus apparently solved the banking crisis. In reality, the situation of European banks is as bad as ever. And as in Japan during the nineties, governments have no strategy to solve this problem effectively.

The greatest nonsense was the argument that the liquidity policy of the ECB would give the government time to resolve the crisis. There was a time illusion. It allowed the leaders to deny the reality of another three months and push the issue on the backburner.

One of the recent experiences of this crisis is that banks are less long. We are now back after Easter at the point where we were before Christmas.
Illusion of Time

So here we are. Greece is in default. Portugal and Spain are sure to follow. The only action by the ECB is kick the can down the road.

However, every can-kicking exercise adds debt and it is repayment of debt that is impossible in debt deflation cycles.

The current path does not work, and cannot possibly ever work, yet the only strategy of the ECB and the Fed is to do more of the same with greater and greater force.

I wrote about this long ago, on April 03, 2008 to be precise, in Fed Uncertainty Principle.

What I said about the Fed applies to the ECB as well, and central bankers in general.

Corollary Number Two:
The government/quasi-government body most responsible for creating this mess (the Fed), will attempt a big power grab, purportedly to fix whatever problems it creates. The bigger the mess it creates, the more power it will attempt to grab. Over time this leads to dangerously concentrated power into the hands of those who have already proven they do not know what they are doing.

Corollary Number Three:
Don't expect the Fed to learn from past mistakes. Instead, expect the Fed to repeat them with bigger and bigger doses of exactly what created the initial problem.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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