The wonderful thing about numbers is that when they are not jockeyed, jerked around, and falsified they tend to tell the truth. Continuing on this thought looking down the road the numbers do not work. This is where the late, Allen Meltzer, recognized for his wisdom and achievements in economics, enters the story. Meltzer was a professor of political economy at Carnegie Mellon University and a visiting fellow at the Hoover Institution.
He authored the three-volume “A History of the Federal Reserve” and for over 25 years he chaired the Shadow Open Market Committee, a group that meets regularly to discuss the policy of the Federal Reserve.
To say Meltzer was not a fan of the economic policies that have unfolded since 2008 is an understatement.
“We’re in the biggest mess we’ve been in since the 1930s,” he has been quoted as saying, before he went on to claim that, “We’ve never had a more problematic future.”
This is about a person born in 1928 that while viewed by many economists as America’s foremost expert in monetary policy is little known by the masses. Meltzer was not been a fan of recent economic policy.
In a Wall Street Journal opinion piece on June 30, 2010, titled “Why Obamanomics Has Failed” Meltzer wrote about how uncertainty about future taxes and regulations was the biggest enemy facing future economic growth. He goes on to say that the administration’s stimulus program failed. Two overreaching reasons explain the failure of Obamanomics.
- First, administration economists and their outside supporters neglected the longer-term costs and consequences of their actions.
- Second, the administration and Congress have through their deeds and words heightened uncertainty about the economic future.
Meltzer said most of the earlier spending was a very short-term response to long-term problems. Part of the money financed temporary tax cuts, this was a mistake because it ignores the role of expectations in the economy. Unless tax cuts are expected to last, consumers save the proceeds and pay down debt. Another large part of the stimulus went to relieve state and local governments of their budget deficits. Transferring a deficit from the state to the federal government changes very little. Some teachers and police got an additional year of employment, but their gain is temporary. Any benefits to them must be balanced against the negative effect of the increased public debt and the temporary nature of the transfer.
This seems to coincide with what Peter Schiff says, printing money is to the economy what taking drugs is to a drug addict. In the short term, it makes the economy feel good, but in the long run, it is much worse off. What was once the “long-run” or “distant future” may be getting very near. Soon the dollar and the American economy will be nearly dead. I recently reviewed a book I read years ago, in his book “A Time For Action” written in 1980 William Simon, a former Secretary of the Treasury tells how he was “frightened and angry”. In short, he was sounding the trumpet about how he saw the country was heading down the wrong path. Looking back, it is hard to imagine how we have made it this long without addressing the concerns that Simon wrote about so many years ago. Back then it was about billions of dollars of debt, today it is about trillions of dollars.
People have been forced into riskier assets because of low-interest rates. When interest rates rise, as they will at some point, the value of these risky investments will decline, and these investors will be hurt. Making things worse is the fact that interest payments on the public debt will rise increasing the budget deficit which has grown massively in past years. It is clear that prices in some sectors of the economy have been rising rapidly and major distortions exist within the marketplace. When the large “too big to fail” banks like Goldman and Bank of America report they made profits in the market on roughly 95% of trading days in 2012 we have to raise an eyebrow. This is an indication that the game is manipulated as no trader is that good.
Returning to Allen Meltzer he penned a piece that appeared in the Wall Street Journal in May of 2014, in the article Meltzer gives his take on where the economy is headed. I highly value his opinion, not only because it is based on his long developed work and studies, but he seems to have far less motivation to lie than many of those currently involved in forming policies today. Meltzer wrote;
The U.S. Department of Agriculture forecasts that food prices will rise as much as 3.5% this year, the biggest annual increase in three years. Over the past 12 months from March, the consumer-price index increased 1.5% before seasonal adjustment. These are warnings. Never in history has a country that financed big budget deficits with large amounts of central-bank money avoided inflation. Yet the U.S. has been printing money—and in a reckless fashion—for years.
The Obama administration has run huge budget deficits every year, which, together with the Bush administration, has amounted to $6.7 trillion from 2006 to 2013. The Federal Reserve financed almost $3 trillion of these deficits by purchasing Treasury bonds and notes. The Fed has also purchased massive amounts of mortgage-backed securities. Today, with more than $2.5 trillion of idle reserves on bank balance sheets, there is enormous fuel for greater inflation once lending and money growth rises
To avoid the kind of damaging inflation the U.S. experienced in the 1970s and early ’80s, the Fed could raise interest rates, including the interest it pays banks on reserves, inducing banks to hold most of the $2.5 trillion of reserves idle. But interest rates high enough to discourage borrowing and lending would likely send the economy into another damaging recession
Fed Chairwoman Janet Yellen recently admitted that the central bank doesn’t have a good model of inflation. It relies on the Phillips Curve, which charts what economist Alban William Phillips in the late 1950s saw as a tendency for inflation to rise when unemployment is low and to fall when unemployment is high. Two of the most successful Fed chairmen, Paul Volcker and Alan Greenspan, considered the Phillips Curve unreliable. The Fed’s forecasts of inflation ignore Milton Friedman’s dictum that “inflation is always and everywhere” a result of excessive money growth relative to the growth of real output.
The Fed focuses far too much attention on distracting monthly and quarterly data while ignoring the longer-term effects of money growth. The country’s present dilemma originated in 2008 when the Fed properly and forcefully prevented a collapse of the payments system. But long before idle reserves reached $2.5 trillion, the Fed didn’t ask itself: What can we do by adding more reserves that banks cannot do by using their massive idle reserves? The fact that the reserves sat idle to earn one-quarter of a percent a year should have been a clear signal that banks didn’t see demand to borrow by prudent borrowers.
The Fed’s unprecedented quantitative easing since 2008 failed to lead to a robust recovery. The unemployment rate has gradually declined, but the main reason is that workers have withdrawn from the labor force. The stock market boomed, bringing support from traders, but the rise in asset prices of equities didn’t stimulate growth by inducing investment in new capital. Investment continues to be sluggish.
And some side effects of the Fed policies have had ugly consequences. One of the worst is that ultra-low interest rates induced retired citizens to take substantially greater risk than the bank CDs that many of them relied on in the past. Decisions of this kind end in tears. Another is the loss that bondholders cannot avoid when interest rates rise, as they have started to do.
Accumulating data from the sluggish loan market and the weak responses of employment and investment should have alerted the Fed that the growth of reserves and the low interest rates haven’t been achieving much. Similarly, the Fed should have noticed in recent years that instead of a strong housing-market recovery, not many individuals were taking out first mortgages. Many of the sales were to real-estate speculators who financed their purchases without mortgages and are now renting the houses, planning to resell them later.
Most of all the Fed years ago should have recognized that the country’s economic problems weren’t arising from monetary factors. Instead of keeping interest rates low to finance deficits, the Fed should have explained that costly regulation, increased health-care costs, wasteful spending and repeated threats to raise tax rates were holding back the recovery.
Broadly speaking, the Obama administration has pursued a course the opposite of that taken by the Kennedy and Johnson administrations in the 1960s (and the Reagan administration in the 1980s). Kennedy-Johnson enacted across-the-board tax cuts: Promoting growth came first, redistribution later. By putting redistribution first and sacrificing growth, the Obama administration got neither.
Ironically, despite often repeated demands for increased redistribution to favor middle- and lower-income groups, the policies pursued by the Obama administration and supported by the Federal Reserve have accomplished the opposite.
When the president campaigns in the midterm election, he will talk about the relative gains by the 1%. Voters should recognize that goosing the stock market through very low interest rates, not to mention the subsidies and handouts to cronies, have contributed to that result. We are now left with the overhang. Inflation is in our future. Food prices are leading off, as they did in the mid-1960s before the “stagflation” of the 1970s. Other prices will follow.
The point of this post is to clarify that just because we have muddled along putting band-aids on our economy does not mean that we have accomplished a great deal. The Trump economy has been a continuation of deficit spending. We have postponed the day of reckoning but most likely made it far worse. Allen Meltzer was a true old school economist that understood this. The time the Federal Reserve has bought for the country to come to terms with its many problems has been squandered at a great cost. While many people claim the American economy was great before covid-19 hit, others like me who work on Main Street beg to differ. For years, an ugly reality has been masked by easy money and deficit spending. While it is difficult to time when our false economy will finally give up the ghost, it is clear this will all end badly.