Thursday, March 24, 2011

The End of Extend and Pretend

23 & 25 March 2011

As a subscriber to Bill Fleckenstein's bargain-priced financial advisory service, I have the privilege of popping off questions to Mr. Fleckenstein from time to time.

Tonight, I thought I had finally grasped the fundamental paradox facing the most indebted nation in world history.

Here is my latest question to Mr. Fleckenstein (who is taking a well-deserved day off tomorrow):


Sorry to trouble you on a day off, but I have a simple question.

Let's say that there is no crisis and no "flash crash" between now and June 30, and that the Fed decides to halt QE (Federal Reserve money-printing) ad infinitum.

Given that the central bank will not be buying $75 billion per month in US treasury bonds, does that not mean that there will be MORE upward pressure on interest rates?

That is, QE = more money supply (inflation), but "No QE" means higher interest rates, and eventually higher federal debt payments?

(Note: a 7% rate on the existing $14 trillion plus US federal debt = $1 trillion in interest payments per year.)

And the fix is for our elected leaders to come back to us and say, "Sorry, we can't give you what we promised you after all. We're shutting off the tap. It's all over."

I think I'm truly beginning to grasp the Catch 22. Every option is "impossible," yet as in all paradoxes, and as always through history, the paradox will have to be navigated in real time.

If I've got it right, is there a timeframe (or interest rate level) beyond which extend and pretend is no longer sustainable?

There it is. My latest question to Fleck. I'll share any answer that comes my way.....

25 March 2011: Mr Fleckenstein replied today to my question as follows: "In my opinion, austerity is a short sale, no one will stand for it, when we can just print money. I don't think there is any set level of anything that would end extend and pretend, it will end when it does, but I'd guess it will be 'unwinding' in the next 6-9 months or so."

Again, my advice for my readers is that you subscribe to Mr. Fleckenstein's economically-priced advisory service!

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