Federal Reserve Chairman Ben Bernanke said recently that inflation in the United States is not as high as it should be given the policies he's enacted. He believes it to be closer to two percent right now. This is troubling for a few reasons. First, this correctly points out that Bernanke does not clearly understand how his program of quantitative easing is effecting the economy. Second, it  gives us insight into how the Fed Chairman reads data; he ignores many pertinent facts in stating that the real inflation rate is below two percent.

When Barack Obama first entered the White House, the average price of gasoline was $1.84 a gallon.  Today the average price of a gallon of gas has nearly doubled to $3.75.  What better indicator is there for our general purchasing power than the price of gasoline? How can you say inflation rates are low when gasoline prices have doubled in five years?

Mr. Bernanke is clearly wrong to rely on the  way the U.S. reporting services calculate inflation. His misplaced reliance shapes bad policy which is a huge issue for the U.S.  If I told you, hypothetically, that the way I benchmarked the performance of my clients is constantly changing and that my ‘composite’ return reflects a combination of these different calculation methods, would you want to be my client based on these performance numbers alone, regardless of what they were? No. You’d tell me to go take a hike, and find an adviser using GIPS or similar industry accepted standards to calculate performance. Now compare this to Bernanke. The Federal Reserve Chairman relies on inflation information provided by the U.S. government to shape the policy of the most important financial organization in the U.S., the Federal Reserve, and the source of this information is the U.S. reporting services that have changed the way they calculate inflation more than 20 times since 1970!  Each time it has been changed, the goal has been to make it appear that inflation is lower than it actually is.  How can someone creating policy rely on this? It’s wrong. You wouldn’t rely on this information for your job which doesn’t shape the financial situation for hundreds of millions of Americans!

Let’s use an example. If the rate of inflation was still calculated the way it was in 1980, then today we’d say it was about 8 percent, not below 2 percent as it is currently reported.  I don’t know about you, but to me when I pay for my gas or buy my groceries, 8 percent inflation seems about right.  According to USA Today, water bills have tripled over the past 12 years and health insurance has risen by more than 8 percent a year since 2010.  Low inflation, sure, if you exclude all historically known indicators of inflation.

They keep talking about it, but one day the Federal Reserve really will have to unwind its massive balance sheet. The fallout will be dramatic, interest rates will hit the moon, US bond and stock markets will recoil, and people will feel the pain.

If I’m making more predictions, I’d say that banking and financial institutions will come under stress again too, which leads me to my next point. Why does the Federal Reserve require that 8 of the largest banks in the U.S. keep a ratio of liabilities and assets at a 20 to 1 ratio?   For FDIC insured commercial banks the ratio would be closer to 17 to 1.  This means that the Federal Reserve is proposing that our largest financial banking institutions be more conservative, because in return, the U.S. financial banking system will be more stable in the long-run and less at risk of becoming a massive bailout and “too big to fail.” While this does make sense to me, this is also the height of hypocrisy.

The overleveraging Federal Reserve is in a way punishing more highly capitalized banks just because they can.  The Federal Reserve is a bank.   Right now the Fed looks like this, as of July 5, 2013, according to Reuters, the Fed’s assets stood at $3.45 Trillion, which are the securities they own outright, meaning Treasuries and mortgage backed securities, Freddie and Fannie, which they are buying every month.   The Fed’s liabilities equal $3.487 Trillion, which means the Fed’s true capital value is currently approximately $55 Billion.  That’s assets minus liabilities.  This is astonishing to me.  This means that the Fed’s capital asset ratio is a mere 1.8 percent less than a quarter of the average top 18 banks in the U.S.

Here is even more hypocritical data.  The Fed is leveraged at a 56 to 1 ratio of liabilities to capital versus the top 18 U.S. banks, which are only leveraged at 12 to 1.  That’s the reason why I call the Federal Reserve, the nation’s most powerful and important financial institution, hypocritical.  It is the King of the thinly capitalized banks in the U.S., this is a double standard.  Fed Chairman Bernanke said  they do not intend to stop printing money anytime soon, which continues to add to the liability side of its already vulnerable balance sheet. 

In the long fight I’ve put up against current Federal Reserve policy, I keep coming back to three major issues that will lead to disaster for the U.S. economy.

First, printing money has debased our U.S. dollar. In fact, it’s been debased to such a degree that it is now worth only 5% of the value it had back in 1913 when the Fed was created and the dollar was backed by gold.

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