The Federal Reserve Board is tasked with two objectives: (1) keep inflation at or below 2% annual growth, and (2) try to achieve full employment.
Christopher Leonard, author of “The Lords of Easy Money” and “Kochland” writes, If You Must Point Fingers on Inflation, Here’s Where to Point Them (excerpt):
As the midterm elections draw nearer, a central conservative narrative is coming into sharp focus: President Biden and the Democratic-controlled Congress have made a mess of the American economy. Republicans see pure political gold in this year’s slow-motion stock market crash, which seems to be accelerating at the perfect time for a party seeking to regain control of Congress in the fall.
Translation: Republicans are rooting for inflation and financial hardship for Americans. They don’t actually care about Americans, only falsely casting blame for inflation with no plan of theor own to address inflation.
But the [GQP] narrative pinning blame for the economy’s woes squarely on Democrats’ shoulders elides the true culprit: the Federal Reserve. The financial earthquakes of 2022 trace their origin to underground pressures the Fed has been steadily creating for over a decade.
It started back in 2010, when the Fed embarked on the unprecedented and experimental path of using its power to create money as a primary engine of American economic growth. To put it simply, the Fed created years of supereasy money, with short-term interest rates held near zero while it pumped trillions of dollars into the banking system. One way to understand the scale of these programs is to measure the size of the Fed’s balance sheet. The balance sheet was about $900 billion in mid-2008, before the financial market crash. It rose to $4.5 trillion in 2015 and is just short of $9 trillion today.
All of this easy money had a distinct impact on our financial system: It incentivized investors to push their money into ever riskier bets. Wall Street types coined a term for this effect: “search for yield.” What that means is the Fed pushed a lot of money into a system that was searching for assets to buy that might, in return, provide a decent profit, or yield. So money poured into relatively risky assets like technology stocks, corporate junk debt, commercial real estate bonds and even cryptocurrencies and nonfungible tokens, or NFTs [i.e., casino capitalism]. This drove the prices of those risky assets higher, drawing in yet more investment.
The Fed has steadily inflated stock prices over the past decade by keeping interest rates extremely low and buying up bonds — through a program called quantitative easing — which has the effect of pushing new cash into asset markets and driving up prices. The Fed then supercharged those stock prices after the pandemic meltdown of 2020 by pumping trillions into the banking system. It was the Fed that primarily dropped the ball on addressing inflation in 2021, missing the opportunity to act quickly and effectively as the Fed chairman, Jerome Powell (right), reassured the public that inflation was likely to be merely transitory even as it gained steam. And it’s the Fed that is playing a frantic game of financial catch-up, hiking rates quickly and precipitating a wrenching market correction.
So now the bill is coming due. Unexpectedly high inflation — running at the hottest levels in four decades — is forcing the Fed to do what it has avoided doing for years: tighten the money supply quickly and forcefully. Last month the Fed raised short-term rates by half a percentage point, the largest single rate hike since 2000. The aggressiveness of the move signaled that the Fed could take similarly dramatic measures again this year.
A sobering realization is now unfolding on Wall Street. The decade of supereasy money is likely over. Because of inflation’s impact, the Fed likely won’t be able to turn on the money spigots at will if asset prices collapse. This is the driving force behind falling stock prices and why the end of the collapse is probably not yet in sight. The reality of a higher-interest-rate world is working its way through the corridors of Wall Street and will likely topple more fragile structures before it’s all over.
After the stock and bond markets adjust downward, for example, investors must evaluate the true value of other fragile towers of risky assets, like corporate junk debt. The enormous market for corporate debt began to collapse in 2020, but the Fed stopped the carnage by directly bailing out junk debt for the first time. This didn’t just save the corporate debt market but also added fuel to it, helping since 2021 to inflate bond prices. Now those bonds will have to be repriced in light of higher interest rates, and history indicates that their prices will not go up.
And while the Fed is a prime driver of this year’s volatility, the central bank continues to evade public accountability for it.
Just last month, for instance, the Senate confirmed Mr. Powell to serve another four-year term as Fed chairman. The vote — more than four to one in favor — reflects the amazingly high level of bipartisan support that Mr. Powell enjoys. The president, at a White House meeting in May, presented Mr. Powell as an ally in the fight against inflation rather than the culprit for much of this year’s financial market volatility. “My plan is to address inflation. It starts with a simple proposition: Respect the Fed and respect the Fed’s independence,” the president said.
This leaves the field open for the Republican Party to pin the blame for Wall Street’s woes on the Democratic Party’s inaction. As Representative “Gym” Jordan, [Insurrectionist Coup Plotter] Republican of Ohio, phrased it on Twitter recently, “Your 401k misses President Trump.” This almost certainly presages a Republican line of attack over the summer and fall. It won’t matter that this rhetoric is the opposite of Mr. Trump’s in 2018 and 2019, when the Fed was tightening and causing markets to teeter. Back then he attacked Mr. Powell on Twitter and pressured the Fed chairman to cut interest rates even though the economy was growing. (The Fed complied in the summer of 2019.) But things are different now. Mr. Biden is in office, and the Fed’s tightening paves a clear pathway for the Republican Party to claim majorities in the House and Senate.
Republicans have also homed in on Mr. Biden’s $1.9 trillion American Rescue Plan, meant to mitigate the impact of the Covid-19 pandemic, as a cause for runaway inflation. Treasury Secretary Janet Yellen (right) rejected that, noting in testimony before members of Congress: “We’re seeing high inflation in almost all of the developed countries around the world. And they have very different fiscal policies. So it can’t be the case that the bulk of the inflation that we’re experiencing reflects the impact” of the American Rescue Plan.
Democrats would be wise to point to the source of the problem: a decade of easy money policies at the Fed, not from anything done at the White House or in Congress over the past year and a half.
The real tragedy is that this fall’s elections might reinforce the very dynamics that created the problem in the first place. During the 2010s, Congress fell into a state of dysfunction and paralysis at the very moment its economic policymaking power was needed most. It should be viewed as no coincidence that the Fed announced that it would intensify its experiments in quantitative easing on Nov. 3, 2010, the day after members of the Tea Party movement were swept into power in the House. The Fed was seen as the only federal agency equipped to forcefully drive economic growth as Congress relegated itself to the sidelines.
With prices for gas, food and other goods still on the rise and the stock market in a state of flux, there may still be considerable pain ahead for consumers. But Americans shouldn’t fall for simplistic rhetoric that blames this all on Mr. Biden. More than a decade of monetary policy brought us to this moment, not 17 months of Democratic control in Washington. Voters should be cleareyed about the cause of this economic chaos and vote for the party they think can best lead us out of it.
Reminder: Republicans know nothing about economics and they have no plan to address inflation. They’ve got “nothing! Zero, zilch, zip, nada, nothing!” You don’t give the keys to the car to someone who doesn’t know how to drive, and who has a long history of previously wrecking the car every time Americans have been foolish enough to entrust them with the keys to the car to drive.
The Fed Chair in 2010 who set the country on this path of “supereasy money, with short-term interest rates held near zero,” following the financial collapse of the Great Recession in 2008, and introduced the next round of casino capitalism was Ben Bernanke.
So take his views in his op-ed today with a grain of salt. Inflation Isn’t Going to Bring Back the 1970s:
We had another bad inflation report last week.
Inflation over the past 12 months exceeded 8 percent, a level that evokes memories of America’s Great Inflation of the 1960s and ’70s. From the beginning of 1966 through 1981, the Consumer Price Index rose, on average, by more than 7 percent per year, peaking at over 13 percent in 1980. This period also saw two major and two minor recessions and an approximately two-thirds decline in the Dow Jones industrial average, when adjusted for inflation.
Are we in danger of repeating that experience?
The short answer: almost certainly not.
Although the inflation of the 1960s and ’70s had higher peaks and lasted much longer than what we have seen recently, it’s true there are some similarities to what we are going through now. The inflation of a half-century ago, like today’s, began after a long period when inflation was generally low. In both cases, heavy federal spending (on the war in Vietnam and Great Society programs in the 1960s, on the response to Covid in 2020 and 2021) added to demand. And shocks to global energy and food prices in the 1970s made the inflation problem significantly worse, just as they are doing now.
But there are critical differences as well. First, although inflation was very unpopular in the ’60s and ’70s, as it (understandably) is today, back then, any inclination by the Federal Reserve to fight inflation by raising interest rates, which could also slow the economy and raise unemployment, met stiff political resistance. President Lyndon Johnson, attempting to insulate the public from the economic costs of an unpopular war, put intense pressure on the Fed chairman, William McChesney Martin, to keep interest rates low. Johnson promised to raise taxes to pay for the war [and he did!], and Martin accordingly refrained from raising rates for a time, but Johnson’s temporary tax surcharge in 1968 failed to cool an overheated economy, allowing inflation to gain a toehold.
Richard Nixon, angling for re-election in 1972, made it clear to Martin’s successor at the Fed, Arthur Burns, that he would not tolerate an economic slowdown before the election, and Burns took no significant action against inflation. Even after Nixon resigned in 1974, Congress continued to pressure Burns and the Fed to avoid anti-inflation policies that might slow the economy. For example, a 1978 law set a target for the unemployment rate of 3 percent for people 20 and older — well below its sustainable, noninflationary level at the time. [See, the Humphrey–Hawkins Full Employment Act].
In contrast, efforts by the current Fed chairman, Jerome Powell, and his colleagues to bring down inflation enjoy considerable support from both the White House and Congress, at least so far. As a result, the Fed today has the independence it needs to make policy decisions based solely on the economic data and in the longer-run interests of the economy, not on short-term political considerations.
Besides the Fed’s greater independence, a key difference from the ’60s and ’70s is that the Fed’s views on both the sources of inflation and its own responsibility to control the pace of price increases have changed markedly. Burns, who presided over most of the 1970s inflation, had a cost-push theory of inflation. He believed that inflation was caused primarily by large companies and trade unions, which used their market power to push up prices and wages even in a slow economy [i.e., a wage-price spiral]. He thought the Fed had little ability to counteract these forces, and as an alternative to raising interest rates, he helped persuade Nixon to set wage and price controls in 1971, which proved a spectacular failure.
Inflation gained momentum over the decade, ending only with the shock treatment applied by the Fed under Paul Volcker in the early 1980s, which resulted in a deep recession.
Burns wasn’t wrong that factors beyond the Fed’s control can contribute to inflation. Supply-side forces are, indeed, important today — not only the increases in global energy and food prices already mentioned but also pandemic-related constraints, like the disruption of global supply chains. Unfortunately, the Fed can do little about these supply-side problems.
Nevertheless, today’s monetary policymakers understand that as we wait for supply constraints to ease, which they will eventually, the Fed can help reduce inflation by slowing growth in demand. Drawing on the lessons of the past, they also understand that by doing what is needed to get inflation under control, they can help the economy and the job market avoid much more serious instability in the future.
In short, the lessons learned from America’s Great Inflation, by both the Fed and political leaders, make a repeat of that experience highly unlikely. The Fed today recognizes that it must take the leading role in controlling inflation, and it has the tools and sufficient political independence to do so. After a delay caused by a misdiagnosis of the economy in 2021, the Fed has accordingly turned to tightening monetary policy [Ahem, doesn’t this directly contradict the premise you just stated, Ben?], ending its pandemic-era bond purchases, announcing plans to shrink its securities holdings and raising short-term interest rates.
Markets and the public appear to understand how the Fed’s approach has changed from the earlier era I described. Although the Fed has raised interest rates only twice this year (this week’s meeting will no doubt bring an additional increase), financial conditions have already tightened significantly (for example, mortgage rates have risen by more than two percentage points in the past year) as markets anticipate that policymakers will persist in their anti-inflation campaign. And while market indicators and surveys of consumers reveal that inflation is expected to remain high over the next year or two, for the most part, they suggest continued confidence that, over the longer term, the Fed will be able to bring inflation down close to its 2 percent target.
This confidence in turn makes the Fed’s job easier, by limiting the risk of an inflationary psychology, as Burns once put it, on the part of the public. Since Mr. Volcker’s conquest of inflation in the 1980s, bursts of inflation have tended to die away more quickly and with less need for monetary restraint than in previous episodes.
None of this implies that the Fed’s job will be easy. The degree to which the central bank will have to tighten monetary policy to control our currently high inflation, and the associated risk of an economic slowdown or recession, depends on several factors: how quickly the supply-side problems (high oil prices, supply-chain snarls) subside, how aggregate spending reacts to the tighter financial conditions engineered by the Fed and whether the Fed retains its credibility as an inflation fighter even if inflation takes a while to subside.
Of these, history teaches us, the last may be the most important. Inflation will not become self-perpetuating, with price increases leading to wage increases leading to price increases [i.e., wage-price spiral], if people are confident that the Fed will take the necessary measures to bring inflation down over time.
The Fed’s greater policy independence, its willingness to take responsibility for inflation and its record of keeping inflation low for nearly four decades after the Great Inflation, make it much more credible on inflation today than its counterpart in the ’60s and ’70s. The Fed’s credibility will help ensure that the Great Inflation will not be repeated, and Mr. Powell and his colleagues will put a high priority on keeping that credibility intact.
The Fed has been failing us for decades, it’s credibility is already shaken. It has done the bidding of Wall Street bankers because the board is stocked with Wall Street bankers. It is a captive agency.