Give the Fed the Needed Tools
Janet Yellen will probably be approved as the new chair of the Federal Reserve Board. This is an appropriate time to recognize that the Fed’s mission does not provide the necessary tools to grow the economy and prevent recessions. It prevents price inflation by putting people out of work, but does not prevent asset inflation in stocks and real estate by limiting easy credit.
The Fed “stimulus” is a sham that makes huge amounts of money for speculators and bankers but does not motivate the consumer to grow the economy. The debate over spending tax-payer money has gridlocked Congress while trillions of dollars of private capital sits idle in corporate surplus. New fiscal tax policies could use this surplus as a real stimulant to the economy.
In his recent book the current Fed chair Ben Bernanke wrote “there was nobody looking at the entire financial system to spot risks and threats to overall financial stability. Monetary policy is a powerful tool but fiscal policies are needed to get the economy going.” Bernanke’s Fed had monetary policies available but not fiscal that were “regulated” by a proliferation of agencies including the SEC, (Securities and Exchange Commission) FDIC, (Federal Deposit Insurance Commission) CFTC, (Commodities Futures Trading Commission) Comptroller of Currency, Treasury Department, Housing Authority and various offices in fifty states. Banks even engage in regulatory arbitrage seeking the weakest regulator.
The Fed’s monetary policy, the regulation of the cost and supply of money, is too limited and the Fed overdid it. Taking interest rates to near zero benefited the speculators while damaging the bond income for pensions. Meanwhile, the banks that received trillions of “stimulus” dollars did not move it into the economy but rather sat on most of it, “earning” interest on the taxpayers’ money.
Bubbles in stocks and real estate have caused repetitive recessions that for over two centuries have destroyed the standard of living of millions of Americans. Alan Greenspan, Bernanke’s predecessor and long-time Fed chair, however, told Congress that the Fed could not prevent asset inflation such as the dot.com and housing bubbles. Greenspan recommended waiting until the bubble popped, and then the Fed would clean up the mess. He helped defeat Brooksley Born’s efforts as head of the CFTC to regulate derivatives. Greenspan told Congress that CFTC action was not necessary because banks provided the regulation. These same banks, catastrophes of non-regulation, shortly afterwards, had to be bailed out with taxpayer money.
Since its founding in 1913 the Fed’s stated mission has been prevention of price inflation with a mention of “full employment.” The reality, however, has been the use of the Phillips Curve and later NAIRU to calculate the unemployment level necessary to prevent price inflation, that is, how many people would have to be put out of work to protect the assets of the rich.
The needed regulation can begin by measuring rising housing values against the Case-Shiller Index, and rising stock prices measured against the historical price to earnings ratio of sixteen. The asset inflationary effects can be slowed and stopped by combining monetary and fiscal policies in the cost and supply of money, taxes and reserve requirements. For example, before the Crash of 1929 stock bought on margin rose from $1.5 billion in 1923 to $6.0 billion in 1928. After the inevitable collapse of this speculative economy, the newly formed Securities and Exchange Commission raised brokers’ margin requirements, the amount of a stock purchaser’s own money, to 50%. During the recent disaster, several in Congress questioned why the margin requirement was not raised to 75% or higher. Another reform would be to add a risk premium to the cost of money when the funds are used for speculation. The recent disaster demonstrated the magnitude of the risk as speculators kept increasing their leveraged bets.
The best brains of Wall Street are focused on personal gain from high-frequency trading. Speculation now represents 99% of stock market activity while capitalism, the raising of new capital to build growth and jobs, represents just 1%!
The government is responsible for “controlling currency and credit for the general welfare” but has persistently failed in this mission. The time is overdue to determine who should do the controlling and what monetary and fiscal policies are needed.
Carey was CEO of ADT for sixteen years and author of Democratic Capitalism