However, in the last year, the Fed has changed its status from “failed financial regulator” to the “mother of all investment banks.” While Wall Street is deleveraging and selling off its crappy assets as fast as possible, the Fed has actually been taking on leverage and buying the very securities that destroyed Bear Stearns and Lehman Brothers.

Year over year, the Fed has doubled its Bank Credit from $800 billion to $1.8 trillion. It did this by opening numerous lending windows to Wall Street, money market funds, the commercial paper markets, and others.

Doing this has increased the Fed’s leverage to 45- to-1.

For the week ended October 22, 2008, the Fed’s total capital was $39.8 billion. Total Federal Reserve Bank Credit was $1.8 trillion. That is 45 to 1 leverage. Lehman Brothers, which went bankrupt due to the very securities the Fed’s begun buying/trading was only leveraged at 30-to-1 or so.

Put another way, the Fed is now more highly leveraged than even the greediest, most poorly run investment banks were.

Desperate times call for desperate measures. But seeing a Central Bank—in fact, THE most important Central Bank—engage in the very activities that rendered many private financial companies insolvent is truly horrifying. The Fed’s actions have begun to bring its very solvency into question. Indeed, the Fed has been assuming the risks and leverage of the private sector at an unfathomable rate.

At some point, the Fed’s only remaining option will be to paper over its/ Wall Street’s debts. This sets the stage for a massive inflationary storm in the future. As I’ve been braying for months, the mega-trend is “deflation now, inflation later.” The Feds are printing money as fast as they can, but they still haven’t stopped the deflationary tide of the debt markets.

John Williams of Shadow Stats notes that year over year growth in the adjusted monetary base was 38%. That’s an all time high. Since 1919, the previous record was 28%. We hit that rate in September 1939 as the US was building up for WWII.

At some point later on, this money printing will spill over into the main economy. Right now most of the Fed’s cash injunctions are sitting on bank balance sheets. But you can’t print money like a maniac and not eventually create a major inflationary storm.

And at some point much later on, we may very well see the end of the Federal Reserve. No good will come of regulators employing the very business practices that rendered Wall Street insolvent.

Best Regards,

Bill King

Last 5 posts by Graham Summers

• We're Soooooooo Close! - October 9th, 2009
• Kiss the “New Bull Market” Theory Good-bye - October 8th, 2009
• The One Investment That Might Be About to Bottom - September 30th, 2009
• What the Fed Doesn’t Want You To Know About US Debt - September 30th, 2009
• How to Prepare For China’s Coming Derivative Default - September 13th, 2009

About Graham Summers (http://gainspainscapital.com) Graham is Senior Market Strategist at OmniSans Research. He, along with Brian, is co-editor of Gain, Pains, and Capital, OmniSans Research’s FREE daily e-letter covering the equity, commodity, currency, and real estate markets. Graham also writes Private Wealth Advisory, a weekly investment advisory focusing on the most lucrative investment opportunities the financial markets have to offer. Graham understands the big picture from both a macro-economic and capital in/outflow perspective. He translates his understanding into finding trends and undervalued investment opportunities months before the markets catch on: the Private Wealth Advisory portfolio has outperformed the S&P 500 three of the last five years, including a 7% return in 2008 vs. a 37% loss for the S&P 500. Previously, Graham worked as a Senior Financial Analyst covering global markets for several investment firms in the Mid-Atlantic region. He’s lived and worked in Europe, Asia, the Middle East, and the United States. Graham travels extensively in search of investment opportunities. He received his formal education from Oberlin College.