The Federal Reserve has employed the Nike strategy of monetary policy for a decade now: Just Print It! Whenever Washington gets into fiscal trouble, which is par for the course these days, the central bank turns into a helicopter parent and drops off a bag of cash to bail out Republicans and Democrats alike. While the Fed aids politicians by monetizing the debt and facilitating deficit-financed spending, Main Street crumbles and gets to touch some of the runoff ink from the freshly printed currency. How generous.
The White House and the public agree that interest rates are too high. According to a new study by WalletHub, a personal finance website, 76% of Americans support a Federal Reserve interest rate cut, averring that it would be good for the economy. Roughly the same number of people say that the central bank knows how to grow the economy more than President Donald Trump.
The report was revealing, but not for the data. It highlighted the fact that people still look up to these institutions as pillars of wisdom and apotheoses that can magically snap their fingers and spur economic growth. Sure, they can hurt the economy, but there is no way a one-man band will suddenly boost incomes, start businesses, and encourage savings and investments.
But that’s what the Fed is trying to do, and that will please the president with election season upon us.
Interest in a Rate Cut
After three years of hikes, the Federal Reserve is expected to reverse course and cut interest rates. While the U.S. central bank is not anticipated to cut the Fed Funds Rate at the end of its two-day June policy meeting, CME Group FedWatch tool data suggest the market is penciling in a rate cut as early as July – many investors think rates could crash to a range of 1.00%-1.25% by the end of the year.
This is welcoming news for the White House, which has been encouraging the Fed to cut rates for nearly a year. Every chance President Donald Trump gets, he bashes Fed Chair Jerome Powell and nudges the Federal Open Market Committee (FOMC) to pull the trigger on a rate cut. White House economic adviser Larry Kudlow, Commerce Secretary Wilbur Ross, and those associated with the president have recommended a drop in rates.
Officials contend that if rates were lower, then economic growth would be a lot higher. Economists who sympathize with the Trump administration say a reversal would work because inflation is low, dollar liquidity is low, and it would offset the negative consequences of the U.S.-China trade war. The consensus on Wall Street is that stocks would receive a boost, but only if the economy is going through a soft patch rather than a significant contraction.
But if the economy were as strong as the White House asserts, why would the Fed need to tergiversate from its gradual normalization? Shouldn’t the greatest economy ever be able to handle not only 2% rates but the historical 5% average?
Since interest rates are gaining the spotlight once again, now would be an appropriate time to ask the question: Should the Federal Reserve even control rates?
Live Forever or Die Trying
It has been conventional thinking that the smartest men in the Eccles Building know what is good for the world’s largest economy. While it is true that the Fed has an incredible amount of data on its hands, it is more likely that the FOMC meetings are something out of a Marx Bros. Picture: jokes, puns, and slapstick. Because there are so many factors that go into what the correct rate of interest should be, the central planners cannot just arbitrarily dictate what it should and shouldn’t be.
When the Fed enters the market to purchase securities, as it has done since the recession, it enhances the credit supply and lowers rates. This move is followed by financial institutions inflating money and creating credit out of thin air. For example, if the Fed purchases $10 billion of securities, then bank reserves will rise by the same amount, inevitably leading to bank loans and the money supply swelling by $100 billion. All the while interest rates keep coming down.
Unfortunately, when newly printed money travels through the system, everything changes – for the worse. Prices skyrocket and interest rates return to their pre-inflationary level, which then requires the Fed to inject inflationary bank credit to suppress rates. Eminent economist Murray Rothbard referred to this as the “unsound economic boom” and “the hallmark of the boom phase of the boom-bust business cycle.”
As you can likely tell by now, all of this is artificial. None of it is real. It is all an illusion. Indeed, low rates mislead price signals that then create malinvestment – miscalculated business investments – and lead to a correction or contraction.
In a truly free market economy, credit and interest would be determined by things like income, how a household prefers to save and invest, and what their time preference is. So, if a consumer wishes to save more, then interest would fall because banks would have ample reserves. If a person wants to save less, then the interest is higher because banks want to restock their inventories.
All the President’s Men
Lately, most articles discussing the Fed and interest rates point out that the White House is threatening the institution’s independence. This is poppycock. Yes, President Trump and his staff are pushing the Fed in a certain direction, but here is the kicker: It has been this way since the 1930s.
When Trump was first running for public office, he claimed that the Fed is beholden to political interests. This perturbed the Counterfeit News Network, and they ran an easily debunked fake news video that focused on the integrity at the central bank.
A simple stroll through monetary history highlights the cozy relationship between the Eccles Building and the White House. As Liberty Nation explained in May 2018, President Franklin Delano Roosevelt coordinated monetary policy with Fed Chair Marriner Eccles, President John F. Kennedy pressed William Martin to speed up money printing, President Lyndon Baines Johnson demanded faster money creation to pay for the Vietnam War, and President Gerald Ford ordered Arthur Burns to slow down the printing press.
Some presidents even wanted the Fed to calculate the economy differently. For example, President Richard Nixon ordered Burns to come up with an economic calculation that would make the inflation rate seem less frightening. Today, we have the core inflation rate, an indicator that does not include food and energy.
Should Powell cave to the demands of Trump, then it solidifies the Fed as a political tool to be wielded by administration after administration. This did not begin with Trump and it will not end with him – of course, the mainstream press will believe that President Trump destroyed the Fed’s credibility and made it a stooge for all future administrations.
Most Awesome Force
The Federal Reserve is not exactly a subject that will dominate headlines, take over presidential debates, or persuade voters. You won’t be musing on the Fed at the dinner table with your wife and kids. But it is an important topic because the central bank can destroy economies, help presidents retain power, and bail out the well-connected as it did a decade ago. Interest rates may not seem like much: You set it and forget it. Rates make the world go around, and if they are manipulated and artificially controlled by a handful of unelected officials without accountability, then that is an awesome force no man should hold.
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