Redefining Capitalism

A few terms might pop up when discussing the Federal Reserve: opaque; unaccountable; conflicted; powerful. Perhaps it is all those things. Perhaps all those things are as they were intended.

Many of us certainly recall the opacity a couple of decades ago when then-Chairman Greenspan, using so-called FedSpeak, communicated largely via a word salad of insider terms. The cross-eyed audience largely dealt with the obfuscation by simply dubbing him some kind of oracle and moving on. Or, to paraphrase Mark Twain, it just seemed easier at the time to keep your mouth shut and appear clueless than open it and remove all doubt. The obfuscation continues. 

We may discuss what few today even recognize: that the Fed, established by Congress in 1913, is actually a creature of the private banking sector and that its leadership ever since has been insulated from the indignity of a public vote. It proclaims transparency even as it vigorously rallies forces to thwart any attempt to peek under the covers. Just leave the conflicts of interest to your imagination.

The Fed's power, then, lies in its largely unfettered ability to create money and to regulate interest rates. Up for discussion: the whole notion of free-market capitalism is being held hostage. After all, the cost of money lies at the very heart of free markets, and free markets are the core foundation of capitalism. The cost of money, or level of interest rates, is the primary factor in helping savers and borrowers determine the best uses of money. When interest rates reflect true economic factors, capital tends to gravitate toward its most productive uses and, with that, a more robust economy, greater economic growth, and a more appropriate distribution of wealth.

Our focus discussion piece is a fascinating video put together by the non-ideological Frontline and carried last week by PBS (The Power of the Fed), which we’ll show at lunch (plus, feel free to preview it beforehand). The piece’s fascination lies in its relatively plain-english explanation of where we are, how we got here, with hints of where we might be headed. It features not only Fed critics but former officials, some of whom since leaving their post seem to have suddenly discovered the art of the simple declarative sentence. That is not to say, however, you will be spared some shucking and jiving on the part of current Fed apologists as they circle the wagons.

One thing you will not hear is reference to the classic (Keynesian) reason for money supply and interest rate intervention i.e. to moderate relatively short-term business cycles. What you will hear, though, is more, more, more -- more stimulus, more time, more borrowing. Reasonable minds may differ as to the appropriateness of the Fed's draconian market intervention back during the 2008 financial crisis. Up for discussion, however, is the ensuing addiction to free money (er, liquidity) ever since. The patient’s condition seems destined to become terminal.

There is the inevitable finger pointing. One current Fed official seeks to divert any blame for the current predicament by citing the shortcomings of (Congressional) fiscal policy rather than (the Fed's) monetary policy (we can discuss the difference). Left unaddressed, though, is the most fundamental point of all i.e. that artificially low rates are themselves the enabler of both bad incentives and bad behaviour. 

Who or what is there to rein in irresponsible financial behavior when essentially free money can be borrowed or spent without meaningful consequences? It's not as if the country, for example, has to raise taxes to cover the burgeoning national debt when the cost to service such debt has been artificially tamped down to virtually nothing. Free wars, free stimulus checks, free fill-in-the-blank.

Same with corporations. Estimates suggest some roughly twenty percent of public companies are zombies, so called because their internal cash flow is insufficient to even service existing debt. No problem. These companies simply engage in cheap new borrowing to pay their existing debt service and thereby stay afloat. Neither companies nor the country seem to suffer financial consequences when they act with reckless abandon.

Particularly galling, though, is the Fed's role in driving wealth disparity. That previously-cited Fed official barely blinked when he suggested the Fed's actions were somehow directed at saving Main Street. What was done back in 2008 had little to do with the real economy and everything to do with the financial sector. It is cheap money that drives up the price of assets, predominantly owned by the top-tier investors and not by the relatively assetless middle class. 

In fact, interest rate suppression has the perverse effect of starving out that very class by choking yield, thereby forcing “yield farmers” farther out on the risk curve into the stock or cryptocurrency markets -- the acronym for that being TINA (There Is No Alternative). How patronizing, then, to hear the defense that no one at the lower tier complains about this. Of course they don’t, as few even understand the game. They (we) might not comprehend what a reverse repo is but they sure as heck see their wage increases falling woefully short of their living costs.      

Where this all goes is anyone's guess but one hint lies with the real inflation numbers. Does any individual with a pulse and out there in the real world actually fall for the official line about the inflation numbers being modest and "transitory"? Apply the same years-ago methodology used to gauge the price inflation number and the real number comes in between eight and ten percent. And climbing. So, really, who actually believes in these curated official announcements anymore?

But no matter, said Biden in trying to garner support for his new $4 trillion spending package, the economic boost would surely help new businesses, increase competition, and drive down prices to which Orwell might just as well add to Newspeak: War is Peace; Freedom is slavery; Ignorance is strength; Inflation is deflation.   

Simple arithmetic answers what the Fed’s current stable of 220 Phd economists and their extensive stable of researchers seem to have a hard time with, i.e. increasing the money supply eventually translates to a decrease in that money’s value -- the fancy term for that being inflation is ultimately a monetary phenomenon. Estimates peg the money supply growth over the last twelve months to be around twenty percent, foretelling massive future price inflation as the so-called money velocity picks up and the commercial banks loan it into existence.  

It's just a matter of time until the little boy cries out that the (unelected) Fed emperor has no clothes. Until then we are witness to the Fed's continued accretion of power. One initiative is the advent of CBDC (Central Bank Direct Currency), while a topic for another day, would bypass the commercial banks’ current involvement in the money issuance process and directly mainline the looming fiscal torrent.

The Fed would seem to be in a box of its own making as any meaningful interest rate rise would result in a “taper tantrum” undercutting current amped-up asset prices. It would thereby gore the ox of those very parties behind the Fed’s curtain. Asking how the Fed might work its way out of this current conundrum is like asking the arsonist how to put out the fire.

Perhaps all the above is a figment of an overly cynical imagination and this excessive money supply will remain locked up in the bowels of the commercial banks (as “reserves”) constipated by the lack of lending opportunities in a slow economy. Either way, a stale air of foreclosure is wafting as the wretched excesses of Wall Street bump up against the realities of Main Street.      

What's at stake is the future of capitalism itself. Listen closely and you might hear the faint echoes of a gasping empire, or at least one on the cusp of significant transformation, as the country drifts toward socialism. It brings to mind the words of Winston Churchill, "The inherent vice of capitalism is the unequal sharing of the benefits. The inherent virtue of socialism is the equal sharing of the miseries."