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Just When You Thought You'd Seen It All, Central Banks Begin 'Kiting' their 'Checks'

Friday, September 2, 2016

 It's a term from when credit cards were a rarity and 'Web Bill Pay' hadn't even been imagined.

Someone would open a checking account at two or more banks.  They would write a check from their account in Bank A to their account in Bank B.  There the funds would be available to allow other checks written against the account at Bank B to clear.  Once the checks written against Bank B clear, the person writes a check against the account in Bank B to his account in Bank A to allow the original Bank A check to clear.

The actual check would go from the bank at which it was deposited to an 'item processing' facility where the check would be scanned.  The numbers on the bottom of a check are printed with a special ink called MICR (Magnetic Ink Character Recongnition).  On a typical consumer checking account, the first set of numbers at the bottom (the 'ABA number') identify the bank.  The second set is the check number, and the third set is the account number.  After scanning these numbers, along with the amount they are sent to the bank for the settling of the check.

This scheme of using alternate accounts as a 'float' for the other account - basically turning each account into a form of interest-free 'payday loans' - depends on the time interval between when the check is deposited at a branch to when it is scanned at the item processing facility.  That time interval can be expanded by adding accounts at other banks to a circle around which a 'float' is passed from bank to bank.

The term for it is 'Check Kiting'.  The original check from Bank A to establish a 'float' in Bank B is called the 'kite' check.  It is and always has been illegal.

Apparently, though, not for Central Banks.

The underlying motive for check kiting is essentially the need for personal 'liquidity' - a purposefully opaque central banker's term for having money to spend.  For central banks, the desire is to provide 'liquidity' to 'markets' in the hope of increasing 'aggregate demand', therefore provoking inflation - so as to make today's staggering debt loads cheaper to pay.  That last part - making debt cheaper - is probably the hardest part for ordinary people to understand.  But for this post, it is not really that important.  What matters here is that central banks are engaged in a grand 'check kiting' scheme - one which can only end badly.

Let's say Spain's Banco de España buys bonds issued by the Spanish government.  To simplify, Banco de España writes a check to buy these bonds.  But to cover that check, they sell from their 'inventory' of bonds to Germany's Bundesbank, which writes a check.  The Germans now have Spanish bonds in their inventory, so they sell German government bonds to cover their check to Spain. Portugal writes a check to the Bundesbank for these German bonds.  The Portuguese central bank now has German government bonds in their inventory, in addition to their own government's bonds, so they sell some of their sovereign debt to Banco de España to cover their check to the Bundesbank.  Spain writes a check to Portugal's central bank for that debt, and then sells their debt to the Bundesbank to cover the check.  The Bundesbank then writes a check....

And around we go.  The 'kite check' is simply being passed along from central bank to central bank. (Yes, this is where you start banging your head on the desk...)

Remember, if an individual does this, it is all about the need for personal 'liquidity' so they have money to spend on something needed or wanted.  Central banks are kiting their checks in the hope of providing liquidity to their markets - hoping that it will be spent.  Throughout this whole charade, which is clearly not working, our esteemed central bankers remain oblivious to one stupendously simple observation: If you want people to buy products, you might want to try making products people want to buy.  IT WORKS EVERY TIME!

There is a point at which money becomes so cheap that the odds at the Blackjack table of derivatives speculation are actually better than lending to Main Street businesses, which might actually be able to use the capital to improve products and processes, or even to create entirely new markets.  (This is what made Steve Jobs the legend that he is.)  At that same point of cheap money, a publicly traded company can actually return the illusion of greater share value by buying back its own stock, rather than creating a nominally lower - but real - return by upgrading plant and equipment or doing R&D on a new product (otherwise known as capital expenditures, or 'capex', which then require them to actually hire people).

We can call this a Ponzi scheme or a Check Kiting scheme.  Either way, in any other part of our economy other than the Wizard of Oz world of central banking, this would be entirely illegal and would result in people going to jail.  (At least Iceland, of all places, gets this and actually jails bankers for stuff like this.)

The very best advice was actually given by Steve Jobs to the graduates of Stanford University, to whom he spoke at their 2005 commencement:  He said: "Don't be bound by dogma, which is living with the results of other people's thinking."

That advice can be no better applied than to today's central bankers, our esteemed Federal Reserve Chair Janet Yellen most certainly included.

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