Here is the great economic paradox of our time: Despite the Federal Reserve's vast, 4½-year program of quantitative easing, the economy is still weak, with unemployment still high and labor-force participation down. And with all the money pumped into the economy, why is there no runaway inflation?
Federal Reserve Chairman Ben Bernanke told
Congress on Wednesday, that "We are pushing real hard at this point but
there are a lot of headwinds." But the usual excuses—commercial banks not
lending, not enough government spending, weak retail sales, Europe in
disarray—are straw men. The Fed has even discussed an exit strategy from its
asset purchases, but without ever explaining why its buying spree led to so
little economic growth.
The explanation lies in the distortion that Federal Reserve policy has inflicted on something most Americans have never heard of: "repos," or repurchase agreements, which are part of the equally mysterious but vital "shadow banking system."
The way money and credit are created in the economy has changed over the past 30 years. Throw away your textbook.