Tags: Mishkin | Fed | inflation | rates

Ex-Fed Gov. Mishkin, Other Experts: Fed Easing Could Lead to ‘Surge in Inflation’

Friday, 08 Mar 2013 11:36 AM

By Dan Weil

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The buildup of government debt could force the Federal Reserve to ease to a point where inflation runs rampant, says former Fed Governor Frederic Mishkin.

Mushrooming government debt can engender “a fiscal crunch [that] would force a central bank to pursue inflationary policies, a situation that's called fiscal dominance,” he writes in The Wall Street Journal, along with David Greenlaw of Morgan Stanley; James Hamilton of the University of California, San Diego; and Peter Hooper of Deutsche Bank.

If the Fed doesn’t go on a money-printing spree, thereby monetizing the debt, interest rates would rise since private lenders demand higher rates, they maintain.

Editor's Note:
 
'It’s Curtains for the US' — Hear Unapologetic Warning from Prophetic Economist.

Such higher rates would cause an economic contraction, the experts write. “Indeed, without monetization, the government could end up defaulting on its debt.”

That means the Fed would have to buy more and more Treasurys “by printing money, eventually leading to a surge in inflation,” the foursome says.

In addition, rising interest rates could force the Fed to incur major losses on its holdings of Treasurys and mortgage-backed securities.

And that could render the central bank unable to make payments to the Treasury, the economists say. “This could subject the institution to a loss of credibility in financial markets and to political attacks.

“With sufficient political will, the U.S. government can avoid fiscal dominance and achieve long-run budget sustainability by gradually reining in spending on entitlement programs such as Medicare, Medicaid and Social Security, while increasing tax revenue by broadening the base,” they write.

“The political will to put the fiscal house in order has not yet been summoned — but should be the highest priority of this country's elected officials.”

Some already think the Fed has gone too far in its easing, including Steve Forbes, chairman of Forbes Media.

“Like steroids in baseball, it ultimately wrecks the player,” he tells CNBC. “The government is making it easier to borrow money for mortgage-backed securities and the like, and small businesses, households have a hard time getting credit.”

Editor's Note: 'It’s Curtains for the US' — Hear Unapologetic Warning from Prophetic Economist.

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