I have just finished the book, “The Lords of Easy Money: How the Federal Reserve Broke the American Economy,” by Christopher Leonard. This book was written in 2021 and published in early 2022, so it does not cover the inflation of late 2021 or the 2022 bear market.
This is an excellent book, which I recommend to all METARs.
The book doesn’t show this chart, but it should. When the book was written, Fed assets had ballooned to $7 trillion. This is now almost $9 Trillion.
The book makes a clear distinction between the two major allocations of money pumped into the economy.
Monetary stimulus is allocated to assets. Excess monetary stimulus leads directly to asset price inflation and eventually to consumer inflation, slowly and indirectly.
Fiscal stimulus goes to consumers and immediately impacts consumer price inflation. (Which is also impacted by productivity and the supply of goods and services. Increasing demand without increasing supply leads to inflation.)
The central theme of the book is how the Federal Reserve’s monetary stimulation, starting in the 1970s but vastly increased since 2008, has caused income inequality, asset price inflation, financial fragility and lower productivity in the real economy.
The vast amounts of money loaned by the Fed at zero interest have been used by the “shadow banking system” of private equity firms, hedge funds and other large speculators to buy productive companies, load them with debt, cut the salaries of the workers and run them into the ground. These same actors have already bought 20% of the private homes in America in order to rent them to families that can’t afford to bid against the wave of privileged cash. (The housing impact is not discussed in the book.)
The emergency actions of the Fed in 2008, 2018 and 2020 were largely to bail out these speculators. Jerome Powell worked at a large private equity firm during his early career so he is protecting his buddies.
The Fed (and by extension, taxpayers) are bailing out speculators who should have been allowed to fail.
From the book:
“The bailout of 2020 – the largest expenditure of American public resources since World War II – solidified and entrenched an economic regime that had been quietly and steadily constructed, largely by the Federal Reserve, during the previous decade. The resources from this bailout went largely to the entitites that were strengthened by the policies of ZIRP and QE. It went to large corporations that used borrowed money to buy out their competitors; it went to the richest of Americans who owned the vast majority of assets; it went to the riskiest of financial speculators on Wall Street, who used borrowed money to build fragile positions in global markets; and it went to the very largest U.S. banks, whose bigness and inability to fail was now an article of faith.”
The last sentence in the book is, “The long crash of 2008 had evolved into the long crash of 2020. The bills had yet to be paid.”
Obviously, the next chapter in this story began on 1/3/2022, when the S&P 500 peaked. Christopher Leonard had made a YouTube video (Premiered Mar 11, 2022) but I haven’t watched it yet.
As investors, we have to wonder whether Jerome Powell will bail out his buddies again as he has done before in 2018 and 2020. Powell made a strong and definite statement that he would raise interest rates until inflation recedes. But the book describes little-known Fed programs which pumped trillions of dollars into bonds and loans in 2020 that the Fed can use to rescue speculators.
As investors, we also need to wonder about the major companies that are “zombies” unable to cover their debt payments from profits without rolling their debts perpetually. Bloomberg found that about 20% of 3,000 large, publicly-traded firms were zombies in 2020. These included Boeing, ExxonMobil, Macy’s and Delta Airlines. If corporate debt yields rise to reflect the real risk of these companies (as they should), some zombies may be forced into bankruptcy. The indexes will be impacted.
Currently, junk bond spreads are widening, showing that the market is anticipating this. Would the Fed come to the rescue as it did in 2020?
If Powell sticks to his guns there will be a recession. If he doesn’t bail out his buddies there will be major financial stress and corporate bankruptcies. If he does bail them out the Fed will have again handed taxpayer money to speculators on a silver platter.
If Powell doesn’t stick to his guns there will be stagflation.