The Fed’s 100th Year Birthday [1]
Bernanke says: The yield on Fed assets in excess of their funding costs may fall in coming years [reducing profits[2]], but should not fall below zero.
Brynjolfsson says: This is insanely hopeful and extremely irresponsible.
By John Brynjolfsson[3]
Prologue
A Chinese proverb, which could certainly be applied to the examination of monetary policy, advises: “if you want to know what the water is like, don’t ask the fish.”
I take this advice to heart, as it fit my approach to life—step back and look at the big picture from outside a system to gain an understanding of how it works. Not only is this more gratifying intellectually, I’d suggest it provides better insights into understanding how things may evolve given new circumstances, and allows one to be more attuned to what kinds of black swans might arise.
With this as a starting point, I look to illuminate the current state of affairs in interest rates, inflation and bond yields.
Central banking has long been well understood. Paper money, it is said, was invented in China, and dates back to the 10th Century. The oldest central bank, the central bank of Sweden, dates back 345 years to 1668. The Bank of England dates back to 1694, predating Adam Smith’s Wealth of Nations and the US Declaration of Independence by about a century. In the following centuries, as the globe industrialized and economies transformed, modern central banking was introduced onto the landscape in 1913 when the Federal Reserve System, known colloquially as “the Fed” was created by the US Congress. It was a few months later, in early 2014, that its operations actually began.
Its creation was a reaction to the boom-and-bust cycle associated with the bubbles created by unbridled private credit creation and the panics that inevitably followed. The youngest of the major modern central banks, the ECB, was created by the Maastricht Treaty, and is a mere adolescent at 15 years old. Other major central banks are the Bank of Japan, the Peoples Bank of China and the Swiss National Bank. Coming back to the Fed, it is currently 99 years old, and on December 23, 2013 we can celebrate its 100th birthday!
In 2013 the concept of central banking will face its greatest test, starting with the Fed.
