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Consequence of Federal Reserve's Bank Bailout

posted Aug 16, 2012, 1:07 AM by Simon Nguyen   [ updated Aug 16, 2012, 1:18 AM ]

There is an old saying that states, "A picture is worth a thousand words." The above image is actually worth 800 billion U.S. dollars. The featured graph shows reserve balances at the U.S. Central Bank in the last 20 years. What immediately jumps out from the graph is the huge spike in the reserve level (2008). In just one year, the reserve balance jumped from a normal level of around $6-9 billion to about $840 billion - an increase of 9333%.

At some point during the next few years, the Federal Reserve will have to unload the excess reserves and bring the reserve balance back to normal level. In doing so, the Fed will have to tread the line carefully or risk having to print a whole lot of money which will lead to hyperinflation - Zimbabwe’s style. Interestingly, a slow economic recovery is needed for the latter to not happen; the Fed appears to have chosen long-term economic stagnation over short-term economic catastrophe. The real danger, however, is the world’s sinking appetite for U.S. debts. But remember this. If the U.S. suffers, countries that hold U.S. debts or are doing business with the U.S. are likely to suffer as well.

Simon Nguyen, M.A. Economics