A new paper for the US Monetary Policy Forum and published by the Fed warns that the institution’s capital base could be wiped out “several times” once borrowing costs start to rise in earnest.
A mere whiff of inflation or more likely stagflation would cause a bond market rout, leaving the Fed nursing escalating losses on its $2.9 trillion holdings. This portfolio is rising by $85bn each month under QE3. The longer it goes on, the greater the risk. Exit will become much harder by 2014.
So, what happens?
With the fiscal and monetary shock absorbers exhausted — or deemed to be — the only recourse left is to claw back stimulus from foreigners, and that may be the next chapter of the global crisis as the Long Slump drags on.
Professor Michael Pettis from Beijing University argues in a new book — “The Great Rebalancing: Trade, Conflict, and the Perillous Road Ahead” – that the global trauma of the last five years is a trade conflict masquerading as a debt crisis.
There is too much industrial plant in the world, and too little demand to soak up supply, like the 1930s. China is distorting the global system by running investment near 50pc of GDP, and compressing consumption to 35pc. Nothing like this has been seen before in modern times.
It is effectively the Smoot–Hawley Tariff Act and I guarantee you most of the Federal Government took the same day off that Ferris did.