The nightmare scenario of the U.S. having to print money because it can no longer borrow enough to fund its government operations has already happened. That the Fed is now doing more QE (QE2) indicates a self perpetuating inflationary cycle is already underway.
A QE-Made-Simple definition goes something like this: The Fed, when it can no longer reduce interest rates or borrow enough money, prints money ex nihilo (out of nothing) that it uses to buy back government bonds from banks thereby increasing the amount of money available in the system. This has the immediate effect of reducing the value of all existing dollars and US debt. You can easily see this in foreign currency exchange rates with countries whose currency is not pegged to the dollar. In other words, more money is available but we get inflation at home, and if we elect to travel outside our country we will find our money worth even less than the last time we traveled. Other countries are not getting richer; we are getting poorer.
The upside to QE is that anything we export to countries whose currency is not pegged to ours becomes cheaper, and the downside is that everything we import from countries whose currency is not pegged to ours becomes more expensive.
The Chinese Juan is currently pegged to the US Dollar, but if the Chinese let the Juan float, almost everything sold by Wal-Mart will become more expensive as a direct result of QE.
QE will also encourage foreign holders of US debt to sell that debt and not buy any more of our government bonds, except for TIPS (Treasury Inflation Protected Securities). Even TIPS will ultimately be shunned because they are based on the understated US government inflation rate.
A scarcity of foreign capital means the US government cannot currently fully fund its budget or its trade deficit; that scarcity could send our economy into a severe contraction and/or depression. Therefore the Fed’s only option is to print more money. But, when the Fed does print more money we become at risk for hyperinflation.
QE is a tool of last resort, therefore, let’s hope the folks at the Fed are wise enough to manage the problem and the tool; that all the new folk we just elected are smart enough to take their attention off guns, abortions, gay bashing and inter-party name calling long enough to grasp and understand this problem. This isn’t about which party is in charge; it’s about all parties recognizing the direness of the situation and working together diligently to solve it. Full stop.
