Why lower rates and quantitive easing are not what we need
Trump is wrong to bully the Fed for lower interest rates. We need higher interest rates to (1) encourage savings, and (2) disencourage malinvestment.
The Federal Reserve continues to bend the knee.
The preeminent technocratic and unelected central body has begun part two of its 180-degree pivot: the Fed has gone from projecting two rate increases as recently as December 2018 to being about a month away from its third rate decrease this year. Taking things a dovish step further, it also just announced it will begin expanding its balance sheet again via asset purchases and injecting liquidity into the system. President Trump has been a strident advocate of both in his all-out assault on the Fed.
This isn’t full-fledged Great Recession-tier accommodation, but it’s rather inappropriate in the face of what’s still a very solid and growing economy. Going from 3% to 2% growth is not a recession harbinger, despite Chicken Little commentary to the contrary. Jerome Powell insists that this balance sheet expansion (where the Fed buys government debt or other securities to inject money into the financial system, what people mean when they say “printing money”) isn’t quantitative easing and is being used to provide ballast to a niche part of financial activity referred to as the repo market.
However, you can chalk me up in the “not buying it” camp. This is likely the start of the return of a Downy-soft Fed that will push on a string with all its might to keep the good times rolling. It’s difficult to have given Trump more of exactly what he wanted.
As someone who consumes a substantial amount of financial media, it’s almost as if the collective punditry is trying to will us into recession by scaring people into behaving as if there is one (a psychological concept known as reflexivity that may just work if we all keep trying hard enough). It’s been ongoing for over a year in the presence of an economy that continues its record-long expansion in conjunction with historically low unemployment and a very robust consumer.
Sure, you can cherry pick some pockets of weakness (e.g. manufacturing data was pretty weak recently), but introducing rate cuts and de facto quantitative easing acts in opposition to the Keynesian allegiance that you essentially must have to become a member of the Fed’s Board of Governors. A simplified explanation: Keynesianism dictates government plays a role to keep markets stable and growing by increasing fiscal spending and dovish monetary policy when the economy is weak, and the reverse when the economy is strong. Through some force of mass inculcation we’ve somehow deluded ourselves into recession fears in the midst of an economy that continues to thrive.
Trump’s instincts surrounding fiscal policy and regulation are spot on and deserve substantial credit for the ongoing economic strength (in respect to taxation anyways, he’s anything but conservative when it comes to spending). However, regarding his monetary demands of mirroring Europe’s negative interest rate landscape, it’s an unfortunate example of being completely healthy yet still requesting medicine. Europe is absolutely nothing to envy, and has been in economic malaise for quite a while. Its monetary approach is beginning to mirror that of Japan’s, which has slashed rates and pumped liquidity into its markets since the 1980s. Japan, as it nears its third lost decade of economic growth, is a paragon of just how inflated the hubris of central banks can be, and how ineffectual their policies of essentially throwing money at their economies and cutting rates have so far borne out.
The madness that has permeated overseas markets is something we should actively work to not import, as 43% of foreign debt currently has a negative yield. Not only has this concept empirically been unsuccessful in revivifying economies, it has significant negative implications for bank lending. If banks can’t lend and make money doing so, and end up passing on negative rates to retail depositors, that will result in cash hoarding and presents a substantial problem for liquidity. For every action, there is an equal and opposite reaction: this isn’t a canon that only applies to physics.
A healthy economy requires a reasonable cost of capital for prudent resource allocation and sustainable growth; an interest rate race-to-the-bottom is a myopic, palliative solution that fails at facilitating either of these objectives. Trump’s focus is better placed on continuing to take a hatchet to restrictive regulations and to make tax cuts 2.0 happen to improve the true competitiveness and prosperity of the economy.