Show,” which ran from 1951 to 1982, was known for its schmaltzy “champagne music” and a TV screen full of bubbles to open most shows. The interest-rate-slashing Federal Reserve has been running the bubble machine ever since. Now, with inflation feeling like it’s rolling over as the economy slows, it’s time to shut the machine down.
Since the fall of 2008, with a brief respite in 2019, the real federal-funds rate has been negative, meaning interest rates have been below inflation (and still are) and the Fed has been accommodative. Accommodating what? Well, in the false hope of boosting aggregate demand and fighting deflation, they’ve accommodated bubbles, bubbles everywhere.
Deflation is only a ghost, often mistaken for prices dropping naturally and to our benefit. Productivity, doing more with less, lowers prices. Think of chips, iPhones and $538 for a 75-inch 4K smart TV at
Why fight it?
Ask the Fed. Faced with this productive trend, it keeps trying to stimulate aggregate demand by dropping interest rates or buying bonds. Instead the central bank ends up inflating prices for various assets and unproductive things that don’t naturally drop in price, like housing, healthcare and education. This sets up the next bubble and downturn and bank bailouts which the Fed fights with even more interest rate cuts, churning the crank on the Welkian machine. Stop doing this!
Don’t worry, central bankers would reassure, they keep a sharp eye on consumer inflation indexes. But even former Fed Chairman
admitted they’re flawed, noting in 2019, “We have a problem with measuring inflation.” Even through mid-2021, inflation numbers looked subdued, but didn’t the Fed notice the asset inflation that rate cuts were causing elsewhere?
Stocks were flying. Even the junkiest bonds had low yields. At the end of 2020, the world had $18 trillion in negative-interest-rate bonds. Still, the Fed ignored these signs. But how did it miss booming home prices and city rents, the $4.8 trillion in new fiscal debt since President Biden’s inauguration, China’s Evergrande’s quarter-trillion dollars in liabilities, multitrillion-dollar valued crypto, unstable algorithmic stablecoins, nonfungible tokens including artist Beeple’s $69 million sale of a jpeg file, specious SPACs including Shaq’s—need I go on?
Yes. Add runaway prices for eggs, ugly art, trading cards and luxury cars, plus regional banks chasing yield, dumb ideas like on-demand scooters, and, of course, confidence games like WeWork’s $47 billion valuation and mission “to elevate the world’s consciousness” as well as beanbag-chair-ensconced fake-money-shuffling
worth $26 billion. C’mon, those were hard to miss. Did the Fed think this was all “rational exuberance”? Low interest rates were the bellows inflating these bubbles.
Former Fed Chairman
William McChesney Martin
famously said the Fed’s role is “to take away the punch bowl just as the party gets going.” But the Fed seems to have superglued the bowl to the table by staying accommodative for so many years. It’s time to put away the spiked punch—slashing interest rates at every sign of weakness. It was a helluva party, and now the economy is hung over. Please, no more hair of the dog!
Lower interest rates are a classic Keynesian demand-side stimulus.
even noted last year that the “Fed’s tools work principally on aggregate demand.” I’d wager most of the 400 or so Ph.D.s at the Fed are Keynesian-trained economists with little to say about supply—that is, little knowledge of Jean-Baptiste Say’s Law of Markets, which states that the ability to buy something comes from income earned from supplying something else first. It’s often summarized as “supply creates its own demand.” Think “supply first.”
As the economy slows, expect the White House to beg for more stimulus, more interest-rate cuts. Nearly every president does. But rate cuts are like pushing on a string if supply is constrained.
Instead of blowing bubbles, the Fed should nurture supply and let capital be allocated freely. A “natural” interest rate would emerge.
Yes, this is hard to do. The recent Chips+ Act came with daycare demands. Public-sector unions are too powerful. Companies have social-justice handcuffs. Merit is moot. Regulations are wrapping green tape over red tape: alternative-energy requirements, water restrictions, electric-vehicle subsidies, windfall-profit taxes, and years to obtain permits. These are all deadweights.
But not much that’s meaningful is easy to accomplish. Sadly, the Fed only uses its blunt instrument, lowering interest rates.
The Fed could be a bully pulpit to force Congress and the administration to pull back their regulatory overreach. Refuse to cut rates until legislation is passed to nurture a supply-first economy. Lower capital gains and marginal tax rates to encourage entrepreneurs building the future; if you take an ax to regulations, the economy will heal itself. Plus, keep rates positively real—3% inflation means a 5% fed-funds rate. And let’s agree that to keep bubbles at bay, no more rate slashing, no more stimulus. Wunnerful.
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