Again
The Fed keeps saying they’re going to normalize.
Interest rates at zero are not normal.
They are crazy.
The Fed dropped the rate to zero in the wake of the Great Financial Crisis of 2008. They have been saying ever since that zero is temporary and at some point the rates will get back to normal (which, historically, has been in a range of three to six percent).
The Fed has tried a bunch of times to start raising the rates back into the normal range. Due to the underlying weakness of the economy they have not been able to carry through with a normalization program. Their latest attempt started this month. They said they were going to raise the rate of the short-term bond (the one that they have control over) six or seven times this year and more times next year.
But.
The long-term bond rate has been falling. Why? Because the economy is still weak. If it continues to fall then the Fed will not be able to raise the rates they control very much. Doing so would risk an inversion (where short-term rates get higher than long-term rates). Inversion spells recession.
The following article is from the forthcoming issue of Green Horizon Magazine:
* * *
They fear recession and deflation
By Paula Fischer
Reflections upon reading:
The Lords of Easy Money: How the Federal Reserve Broke the American Economy
by Christopher Leonard (Simon and Schuster, 2022).
Ernest Mandel published his final major work — Late Capitalism — in 1972 and gave the student radicals of the time the idea that the system was on its last legs, headed for collapse within decades.
Not. The vehicle of innovation, exploitation, and consternation plods on and on. Yet “under the hood” (as Ross Perot used to say) there are signs of corrosion. It seems that ever-increasing applications of fiscal and monetary stimulus are needed to prevent stalls and breakdowns. And the fate of what we might call Modern Managed Capitalism (MMC) is still very much playing out, with consequences unknowable.
THE FED FEELS BOXED-IN
MMC these days is toying with MMT (Modern Monetary Theory, a justification for money printing). To some it seems reckless. Christopher Leonard’s book, The Lords of Easy Money, relates how Thomas Hoenig, a former president of the Federal Reserve regional bank in Kansas City, has been warning that excessive printing and record-low interest rates will lead to misallocation of capital.
Hoenig is among many establishmentarians who want capitalism to thrive and are critical of the Fed’s radical policies on that basis. The debate about those policies rages in the financial press daily. What’s often overlooked is how the authorities may feel that they have no choice. The alternative to hyper-stimulation could be a dire extent of deflation. The Catch-22 of the situation is that their low interest rates tend to encourage short-term inflation and the piling up of debt — and that could magnify an ultimate deflationary disaster.
As rates were pushed artificially low in the wake of the Great Financial Crisis of 2008, and then Quantitative Easing was initiated (QE: a type of non-traditional policy in which central banks buy a large number of securities in order to inject money into the markets in an effort to expand economic activity) there were alarms about ultimate hyper-inflation. The Consumer Prices Index didn’t indicate such until recently, but for decades there has been massive inflation in the prices of financial assets.
In our economy the upper 10% of wealth-holders own 90% of those assets. So the already-egregious inequality of the capitalist system has been exacerbated by QE. But the resultant over-valuation of assets has limits, because a consequence figures to be low returns going forward.
LOW RETURNS CAPITALISM
2008 was a watershed year and a case could be made justifying the need for temporary radical measures at that time to avoid a depression. But after the worst of the financial crisis had passed there was an expectation of re-normalization of monetary policy. It’s been notable and disconcerting that such has not occurred.
Why not? Leonard explains that underlying deflationary forces have prevented it. But if normalization proves to be impossible, it may be an indication that we’ve entered an epoch of very-low-returns capitalism.
Bondholders invest with the expectation of getting returns in the form of yearly interest on their bonds. Historically, typical bond yields ranged between three percent and seven percent. Over the course of the last decade they’ve generally been well below three percent. Such low yields occurred only once before in the history of the modern system — at the depths of the Great Depression.
Equity shareholders invest with the expectation of getting returns in the form of dividends and capital gains. High stock prices limit both. Hedge fund professionals can find exotic yield-maximizing investments (and they can manipulate markets), but the average “retail” investor tends to just drip money into standard passive mutual funds via their 401(k) accounts month-by-month. Going forward from here their prospects for returns are abysmal.
This is unprecedented, and no one knows what the implications will be if the capitalist system will be affording investors so little return on capital and savers so little interest on their savings. In fact, no one can foretell the fate of a system that needs constant stimulus, generates mountains of debt, misallocates investment capital, and is haunted by the prospect of deflation. In The Lords of Easy Money Christopher Leonard explains why Thomas Hoenig is so deeply concerned for the future of the system he once extolled.
Reference:
