All the World's Central Bank injections of Liquidity, (& government's related, but smaller, fiscal stimulus) is still FAR LESS then the Liquidity that has evaporated from the economies by the financial collapse. (Governments' actions - while necessary - remain but a partial replacement of what has been withdrawn, he equivalent of trying to bail a boat that has been over-topped with water):
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UP AND DOWN WALL STREET DAILY
Fed Fights a Record Global Bank Run
By RANDALL W. FORSYTH
online.barrons.com
THE FEDERAL RESERVE has been roundly castigated in some quarters -- even former high officials of the central bank -- for its aggressive and unprecedented steps to combat the credit crisis.
But data just released by the Bank for International Settlements suggest that, if anything, the expansionary measures taken by the Fed (and in concert with the Treasury) were dwarfed by the record contraction in the global banking system brought on by the crisis.
According to the BIS, which acts as a central bank for central banks, total bank claims shrank by $1.8 trillion in the fourth quarter, or 5.4%, to $31 trillion. This was the largest decline ever recorded.
In other words, there never was a global run on the banking system such as the one seen in the final three months of 2008, which followed the bankruptcy of Lehman Brothers and the near-collapse of American International Group (ticker: AIG) in September. The numbers serve to confirm the extent of the tsunami the swept through the world's financial system.
As the balance sheets of the global banking system threatened to shrink like a dying star and create an economic black hole that could suck in the world's economy, central banks and treasuries around the world responded in kind.
In the U.S., the Fed doubled the size of its balance sheet, to about $2 trillion from $900 billion in the fourth quarter, and is in the process of adding another $1.15 trillion to its assets through the purchase of Treasury and U.S. agency obligations and mortgage-backed securities. Meanwhile, the federal government established the Troubled Asset Relief Program to pump $700 billion into the banking system.
Meanwhile, authorities abroad have established similar programs, notably in the U.K. Central banks from Japan to Canada have embarked on similar "quantitative easing" plans, effectively printing money to offset the credit contraction that has taken place in unprecedented proportion.
Unlike in the 1930s, when central banks actually aided and abetted the collapse of the banking system, today's leaders responded to the unprecedented crisis in the fourth quarter with equally unprecedented force.
Yet, Fed officials find themselves uncharacteristically on the defensive for their actions, even from former, highly respected officials of the central bank. As with former presidents, retired Fed officials generally have followed the protocol of not criticizing their successors.
Former Fed Chairman Paul Volcker, who saw through the fight against inflation in the late 1970s and early 1980s against fierce opposition from all quarters, has not been so reticent of late. While he kept mum during the term of his direct successor, Alan Greenspan, he has taken to task the Bernanke Fed, as well as the Treasury, for their aggressive counter-attacks against the credit crisis.
"I don't think the political system will tolerate the degree of activity that the Federal Reserve, in conjunction with the Treasury, has taken," Volcker said a symposium on monetary policy in Nashville, Tenn., last week.
Similarly, Bloomberg News quoted William Poole, the monetarist former president of the St. Louis Fed, as complaining that the central bank's actions threaten inflation. Fed officials are "dramatically underplaying the risks and the liability side of the balance sheet," said the economist who now is a consultant to an investment group.
Yet, the effects of the shrinkage of the private banking system's balance sheet are unequivocally evident. It's now history that fourth-quarter gross domestic product shriveled at a 6.3% annual rate. What's become apparent is that the real output of the finance industry shrank last year at nearly twice the previous record rate of decline, according to JP Morgan Chase (JPM) economist Michael Feroli.
Real output in the finance industry fell 3.0% in 2008, compared to the previous record of a 1.6% decline in 1958. Because finance looms much larger in the economy, last year's contraction shaved a hefty 0.24% from GDP, compared to just 0.05% in 1958.
From 1997 to 2000, finance typically kicked about 0.5 percentage points to GDP growth, Feroli notes. In 2008, only construction and manufacturing detracted as much or more than finance from GDP, 0.24% and 0.32%, respectively.
Construction and manufacturing are directly affected by the collapse in credit, so the financial travails extend far beyond Wall Street. Now, however, policy makers are accused of being too solicitous of Wall Street.
To be sure, banks, including the I-banks, have benefited from the actions of the Fed and the Treasury. But that is separate from the question of the macroeconomic impact of their actions.
Those who contend that the expansion of central bank balance sheets is inflationary ignore the contraction of balance sheets in the banking system, as well as the so-called shadow banking system of assets and liabilities not recorded on banks' books.
This analysis is very different from arguments that appeal to the "output gap," the difference between the economy's potential output and actual production. That analysis effectively says that high unemployment will hold down wages and prices, which manifestly did not happen in the staflationary 'Seventies.
Inflation, as Milton Friedman taught, is always and everywhere a monetary phenomenon. Yet the current central-bank expansion is offsetting the contraction in the banking system -- which Friedman criticized the Fed for failing to do in the 1930s.
The new BIS data bear out the justification for the Fed's actions, notwithstanding the critics' claims.
Comments: randall.forsyth@barrons.com
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