Tapering's Talons

"A wise hawk hides its talons." - Japanese proverb

Recently the Federal Reserve increased their tapering of the quantitative easing stimulus by another $10 billion a month.  That brings the total to $20 billion a month in reduced monetary spending from the Federal Reserve or almost a 25% reduction from the $85 billion a month peak stimulus.  The impact of this tapering has been relatively mild in the United States as outside of a 1,000 point drop in the Dow Jones Industrial Average, interest rates have fallen almost 15% which could assist housing.  The undercurrent though is a different story.  Stocks appear very weak and look likely to take another leg down but the real talons of the Federal Reserve's tapering are the deep claw marks being left in the emerging markets of the world.

When you try to stimulate an economy by blindly printing money, this money ends up in places other than those intended by the stimulator.  As the Federal Reserve has been printing money for years and as they have been holding down interest rates to artificially low yields, money has flown to find return and one of the best places for this was emerging markets.  As the Federal Reserve piled larger and larger sums of money onto the pyre, countries such as South Africa, Argentina, Russia, Ukraine, Turkey, Brazil, Hungary, India and Pakistan to name a few boomed as yield was hunted out in the jungles of the Amazon, the mountains of India and Pakistan and the game ranges of Africa.  The heat from this massive fire drove investors across the globe to seek refuge in the high yielding nations of the emerging markets.

As this money poured in these governments were able to expand their spending and cover up poor investment decisions all the while supporting economic growth with borrowed money.  As an example, Argentina grew at an average annual rate of 7.2 percent for a decade but much of that growth was tied to an increasing government deficit and spending financed by United States loans.  Now that the Federal Reserve is pulling back on their spending the first money to leave the shores of the emerging markets is the foreign investment and this is leaving deep talon scars across the landscape.  The Peso has cratered 26 percent in 12 months and inflation has followed jumping to an unofficial rate of more than 25 percent.  Strikes are ensuing and a default looks likely.  The boom days are gone and all the Federal Reserve has done is slow spending by $20 billion a month!

These types of stories are being related across the emerging market landscape and unrest is becoming more than a stir as riots break out in Russia, Egypt, Thailand and other countries around the globe.  While the Federal Reserve cannot take all the blame for this as the governments that took on the debt could have put the money to better use through projects such as infrastructure and education, the effects of such large scale unabashed money printing are starting to be seen and it is ugly.

The Austrian economist von Mises stated that; "The boom can only last as long as the credit expansion progresses at an ever-accelerated pace.  The boom comes to an end as soon as additional quantities of fiduciary media are no longer thrown upon the loan market."  It appears that even the Federal Reserve has realized that there is no way to continually expand the loan program and the effects of the tapering are being felt almost instantly.  2014 should be a highly interesting year as there is still the unknown personality of Janet Yellen and if her rhetoric has any weight I would assume that it will not be long before she puts her foot once again on the printer's accelerator.  The problem is that once again this would only bring temporary respite and not long term economic growth and you have seen a very small sample of what is in store once the stimulus ends as it must.