With Israel preparing a ground invasion of Lebanon, with the intent of stomping out Hezbollah, there has been a vertigo spiral among commentator such as Newt Gingrich declaring the end of civilization could be at hand. There is an end at hand, but that end is outlined not in Lebanon, but in the recent fed minutes and the statement by Ben Bernanke. While markets maybe worried about Olmert, it is the the Fed Chairman who is the mad bomber that Wall Street should be worried about.

The road to peace in Jerusalem runs directly through Washington DC, and it is not an accident that there is destabilization as a growing presence in the world, at the same time there is flood of money from the monetary authority in the US. One pays for the other. The smoke you see rising from shattered buildings, the bodies that are twisted beneath the rubble - they are the Violence Tax that we are paying for our monetary and fiscal looseness.

One can begin from either end, being an econo-geek, the end I would like to start from is a close reading of three important numbers that came out this week, along with the testimony of the unelected head of the Fourth Branch of American government. However, this end of the story is dry.

Instead let us review what has been happening over the middle scale in Israel and the rest of the Levant.

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The invasion of Iraq has had many effects, its ripples spread outwards. But one effect that is almost undeniable is that it simultaneously put tremendous pressure on the various Palestinian organizations which had waged one form or another of resistence or war against Israel, and at the same time shifted the focus of money and effort to supporting the insurgency in Iraq. While the "fly paper theory" has been a complete failure in terms of the west - as the 7/7 and M11 bombings show, the islamicist terrorists are capable of striking in the heart of the developed world, it was, for a time, true of Israel.

Ariel Sharon, ever the tactician able to sieze an advantage, used this moment to put forward a plan of imposing a unilateral solution on the ground. This included a restricted area of control, lack of state apparatus and failure to access the metrpolitan and water resources of the West Bank. In short, he understood that he had to give them something, but at the same time, it was not very much. Key to the architecture was an attempt to create permanent facts on the ground - a wall, and the destruction of Arafat's Fatah movement among them - which would make it difficult to impossible for a later political entity to reverse the imposed solution.

The argument in favor of this path was rather simple: when Arafat had had a clear chance for a much better deal under Clinton, he failed to take it. The Palestinian Authority under Arafat was also manifestly corrupt. Sharon and his movement believed that concessions were not the road to peace, but instead ruthless exploitation of what was a temporary imbalance.

However, there was a time limit on this, which is why Sharon precipitated political crisis to reach the Premiership: namely, there would come a day when the focus would shift from Iraq, back to the Levant. On that day, if the arrangements were not to far along to be overturned, and that included the various pullbacks as well as the security apparatus and the creation of a Palestine as a "bantustan," then it would all be for naught. Sharon was a realist and a pragmatist, the clock was running, on him, on his plan, and on his vision of Israel.

The failure of two Labor governments to secure peace with some form of viable Palestinian quasi-state, had opened the way for him, but it was Iraq, and its draining of money, tradecraft and urgency which made it possible. But every story has a beginning, a middle and an end. For Sharon the end of the story was that his own right flank - the hard core Likudnicks, would not recognize, as he did, that there were limits to both the reach and the force of the imbalance. An unequal peace could be imposed, it could even be, to the minds of the Arabs under it, an unjust peace. But it had to be peace, and it could not be an intolerable peace.

For this reason Sharon broke with his own hard right, in essence, precipitating a governing crisis for the second time, this time forming a "centrist" political movment, which then captured the government of Israel. He had to, time was running out - he had to impose a peace not only on the Palestinians while they were weak, but on his own far right flank while he was strong.

In an historical irony, the clock ran out for Sharon personally, and economically, at the same time. The very spigot of money which paid for American intervention in Iraq, and thus created the space within which he worked, was causing its second wave of effects - massive energy inflation and a global dollar glut.

That Sharon knew that it was external, and not internal, forces which gave him the leverage can be seen by his break from the Likud. If he believed that it was merely the boot that got him what he needed, there was no reason to anger them.

What ended this space was nothing more than the simple reality that the United States was pumping out dollars at a fantastic rate. Dollars which were, eventually, used to buy oil, which then, in turn, became ready cash in the hands of those in the Arab world who see a conflict with the West as enhancing their prestige and power.

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While it would be amusing to recount the ins and outs of the rise of Ben Bernanke, his recent statement to Congress, combined with a bit of knowledge of his academic work and a reading of the inflation numbers and numbers from Wall Street provide the same information.

Let us start with Bernanke's stance on inflation:

Inflation has been higher than we had anticipated in February, partly as a result of further sharp increases in the prices of energy and other commodities. During the first five months of the year, overall inflation as measured by the price index for personal consumption expenditures averaged 4.3 percent at an annual rate. Over the same period, core inflation--that is, inflation excluding food and energy prices--averaged 2.6 percent at an annual rate. To address the risk that inflation pressures might remain elevated, the Federal Open Market Committee (FOMC) continued to firm the stance of monetary policy, raising the federal funds rate another 3/4 percentage point, to 5-1/4 percent, in the period since our last report.

Anyone who thinks that a 5.25% fed funds rate with a 4.3% inflation rate is "firm" against inflation has a, shall we say flaccid, definition of the word firm. But when compared with Bernanke's own academic work, they show a massive political sell out. He co-authored a book on inflation targetting and praised it in his remarks:

By the policy framework I mean the principles by which the policy committee decides how to set its policy instrument, typically a short-term interest rate. In an earlier speech, I referred to the policy framework that describes what I consider to be best-practice inflation targeting as constrained discretion.7 Constrained discretion attempts to strike a balance between the inflexibility of strict policy rules and the potential lack of discipline and structure inherent in unfettered policymaker discretion. Under constrained discretion, the central bank is free to do its best to stabilize output and employment in the face of short-run disturbances, with the appropriate caution born of our imperfect knowledge of the economy and of the effects of policy (this is the "discretion" part of constrained discretion). However, a crucial proviso is that, in conducting stabilization policy, the central bank must also maintain a strong commitment to keeping inflation--and, hence, public expectations of inflation--firmly under control (the "constrained" part of constrained discretion). Because monetary policy influences inflation with a lag, keeping inflation under control may require the central bank to anticipate future movements in inflation and move preemptively. Hence constrained discretion is an inherently forward-looking policy approach.

I invite any central banker in the world to come out and say that they have an inflation target of 4.3%, and see how much credibility that it buys them. The argument for inflation targetting in the first place is also crucial, and you can be sure that Bernanke understands the mathematical formalism of it that goes far beyond the short summary I am about to provide.

A central banker, in this argument, is always tempted to be a bit softer on inflation than they ought to be, because by having a slightly looser monetary policy, with the threat of tightening, there will be a faster growing economy and lower nominal unemployment than would otherwise be the case. The problem is that other actors know that the central bank has a reason to cheat, and even if they don't see any looseness, will bet on the inflationary side of the ledger, creating a moral hazard pressure - if the monetary authority tightens, it will make the downturn worse, because so many actors bet on better. If the monetary authority is loose, it not only creates inflation, but it bails out actors that benefit from the inflation, thus creating a slow downward spiral towards losing control of monetary policy.

Since loss of control of monetary policy is the outcome, it is better to ceded that control in advance by announcing an inflation target, and by denying authority, tell actors that if they do bet on inflation, even if the monetary authority is tempted to bail them out, its own monetary policy rule will prevent it form doing so.

Bernanke, like all good reactionary economists, attacks the dread "Phillips Curve":

In my earlier speech, I gave the Great Inflation of the 1970s in the United States as an example of what can happen when inflation expectations are not well anchored. Contrary to the belief in a long-run tradeoff between inflation and unemployment held by many economists in the 1960s, unemployment and inflation in the 1970s were both high and unstable.

The Phillips Curve is a hypothesized relationship between inflation rates and nominal unemployment. The problem with this curve is that first, it breaks down when used as a policy, rather than observed, and second, the floating definitions of both unemployment and inflation make a relationship between them dependent on that relationship being held fixed, and other relationships being allowed to float. Since people want money to be related to buying power and saving power, this is not a tenable policy regime.

However, Bernanke, after slapshotting the monetary authorites of the 1970's - Republican ones primarily - proves in his latest statement that he is willing to do exactly as they did - put inflation fighting off to another day, in order to avoid damaging the willingness of people to spend in the present. From his present testimony:

The U.S. economy appears to be in a period of transition. For the past three years or so, economic growth in the United States has been robust. This growth has reflected both the ongoing re-employment of underutilized resources, as the economy recovered from the weakness of earlier in the decade, and the expansion of the economy's underlying productive potential, as determined by such factors as productivity trends and growth of the labor force. Although the rates of resource utilization that the economy can sustain cannot be known with any precision, it is clear that, after several years of above-trend growth, slack in resource utilization has been substantially reduced. As a consequence, a sustainable, non-inflationary expansion is likely to involve a modest reduction in the growth of economic activity from the rapid pace of the past three years to a pace more consistent with the rate of increase in the nation's underlying productive capacity.

If a business were to put this in a prospectus, Wall Street analysts would be howling with cynical glee at the chance to shread unrealistic management expectations. The reason for this is found looking backward. In the last quarter of last year there was a significant drop off of economic activity, indeed the present inflationar pressures have risen consistently whether quarterly GDP was good, bad, or robust. If 1.6% isn't enough to dent inflationary pressures, then "moderating" growth is not going to do so either. Unless by "moderate" you mean oil at $74 dollars a barrel.

Bernanke apologists will say that he is targetting a 2% rate of "core" inflation. However, he missed that target by 30% - again showing that while Bernanke's work may not apply to everyone, he does seem to know his own weakness for helping prop up the political party in power that he is a member of.

So where does this show up? The answer should be obvious to anyone paying three BushBucks a gallon for gasoline:

I turn now to the inflation situation. As I noted, inflation has been higher than we expected at the time of our last report. Much of the upward pressure on overall inflation this year has been due to increases in the prices of energy and other commodities and, in particular, to the higher prices of products derived from crude oil. Gasoline prices have increased notably as a result of the rise in petroleum prices as well as factors specific to the market for ethanol. The pickup in inflation so far this year has also been reflected in the prices of a range of non-energy goods and services, as strengthening demand may have given firms more ability to pass energy and other costs through to consumers. In addition, increases in residential rents, as well as in the imputed rent on owner-occupied homes, have recently contributed to higher core inflation.

But this takes a great many words from Bernanke to tell a much simpler story:

Gasoline (all types).....................
Weight (% of index) 4.148
May 2006 249.8
June 2006 247.3
% change 12 months 34.0

That's right 34% increase in the price of gasoline. The same story is told by producer prices - where intermediate and finished energy goods are up 19% over the last year. Hiding behind "core" inflation is - and there is no nicer word for this - fraud. Everyone who has looked at core versus non-core inflation knows that non-core, that is food and energy prices - rising faster than "core" inflation - that is everything else - is a bad sign for the US economy.

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So let us admit of the facts, facts which should have been evident to any informed observer reading Bernanke's work on 1928-1935 monetary policy - Bernanke is a conservative inflationist. Since we associate conservatives with deflationary policies and hard money, we forget that just about every monarch from 1600-1800 was both conservative, and a rampant inflationist. The question was how to keep the money at the top, and prices for labor and goods - with which royalty both maintained an oppulent life style and fought wars - low. The return of conservative inflationism is of historic importance, because it means that reactionaries and conservatives now see themselves as the legitimate and normal powers of government, and as Bernanke himself points out in his work on inflation targetting those in power are constantly tempted to violate the boundaries of political integrity in return for short term gains.

So the obvious point is that Bernanke has run a loose monetary policy, that this has shown up in energy inflation. He has announced that he will allow slowing of the economy down to roughly 3% GDP growth, but no slower, and he hopes that the resulting inflationary pressures will work themselves out. So much for any illusion that the current Fed chairman is an inflation fighter. But what does this mean, in real terms?

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What it means in real terms is very simple: inflation, to the extent that a governmental monetary authority - and remember there are, and have been, private ones - encourages or allows it, is, in effect, a tax. I use this word specifically, not merely in the sense of giving the government more purchasing power - it is not merely effective revenue - but in the sense of the word that people usually use it perjoratively. That is, it is a means by which the government increases its purchasing power by penalizing behavior of others. Inflation taxes someone, because it reduces their buying power, to the advantage of the government.

Who is being taxed? Well in one obvious sense anyone who fills up a gas tank is being taxed. The difference between what you pay now for gasoline, and what you paid in the late Clinton era is a direct result of the Federal Budget deficit, and the loose money policies of the fed. That means roughly $1.50 a gallon. Americans revolted at the prospect of a 50 cent a gallon tax, but now merely grumble at $1.50 because it passes through enough hands to be invisible.

But that money goes someplace. One major place it goes is into the coffers of Iran, Saudi Arabia and other Islamicist nations with various shades of unfree government. I mentioned earlier that it is historically normal for monarchies to be both conservative to reactionary, and to be inflationist. The problem of course is how to have the money flow one place, and the inflation flow someplace else. Monarchies, to use Bernanke's phrase again, "have the keys to the printing press, and are not afraid to use them".

One time honored solution they have for keeping restive populations in line, and poor, is to run minor conflicts against real and imagined enemies. One of those enemies, is the United States, and the other is Israel.

Thus the space that Sharon was using was not merely limited in time, it was self-destructive. The money for Iraq has come from the Federal Reserve printing dollars, and that money then flows back around and funnels the conflict in Iraq. By hook or by crook, the price of getting oil out of Iraq will rise to the global price, and by crook it seems to be.

Thus we meet the two immutable realities of peace in the Levant: in order to have peace, Arab factions must stop taking blood money, and Israel must conclude a peace with a viable Arab state or states. Since neither party, in the current environment of easy money, has any incentive to act on its part, there will be less and less peace. This is because as much as the bubbling economy has made oil expensive, and thus Arabs willing to fund attacks on Israel, it has also bailed out Israel's economy, and thus made Israelis willing to take a hard line, and able to pay for more military action. Hamas does not make their weaponry, and Israel does not pay for its.

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So let us look at the present actions of Olmert in this context. He knows, because the rockets rain down on his country, that the space that he and Sharon hoped to exploit is coming to an end. While the Palestinian Authority has been destroyed, what has been created instead are proto-states in the form of a Hamas and Hezbollah that engage in more than military and terrorist attacks, but are increasingly providing the services that identify them as "the government" and as "facts on the ground".

Thus Olmert had two possible courses of action. One was to use the present period of abundance to be generous - to, having won the struggle over Arafat, choose to create a viable state, and undercut etremists elements by entering into a military alliance with it. He had certain factors that pushed in this direction, namely the Cedar Revolution, and the desire for those in power among the Arabs to have peace, with or without victory.

However, Olmert has decided otherwise - he is going to destroy Lebanon, destroy even the unilateralism of Sharon, in order to return to the Likud vision of using the military boot to enforce his own version of peace. He is doing so, naturally, by repeating the action which set Sharon on the course to power. It should be remembered that the negative costs of that occupation helped drive Likud out of power, and set the stage for a brief period of conciliation.

It is too soon to tell how this will play out, but given that Bernanke is willing to print the dollars which, passed through two or three hands, end up as rockets flying into Israel, it is almost assured that the world will, one way or another, be paying the violence tax for some time. Because even if one assumes that a military occupation will solve the anarchy or the rise of non-state actors, it is still a tax, paid in blood, by the young, the old, and the unlucky.

That is the cost of the false American recovery we are experiencing.