Post #2 on The Lords of Easy Money (inflation and the Federal Reserve)

With April Fools’ Day coming up, a look at the second half of The Lords of Easy Money: How the Federal Reserve Broke the American Economy (2022) by Christopher Leonard… (the first post: A book about the Federal Reserve and inflation)

The book covers the pointless nature of the Fed’s hyperinflation program, which Fed insiders sold to each other with good intentions. The author points out that one reason the Fed’s easy money program didn’t create jobs or boost the real economy is that corporate CEOs can boost their own compensation most effectively by using free money to fund stock buybacks. If a CEO’s pay is based on earnings per share or stock price, he/she/ze/they will enjoy an instant pay boost following a stock buyback.

One thing that the government never lost was faith in itself. Tom Hoenig, who moved from the Fed to the FDIC, was one of only a handful D.C. insiders who imagined that there were limits to what D.C. insiders could accomplish via regulation.

Hoenig said [in 2012] they should tear up the very complicated rules they’d been negotiating for years (called the Basel III accord). When he spoke to a group of bank lobbyists and journalists, he told them the banks should be broken up rather than regulated, and monitored under the new Dodd-Frank Act, which was roughly 850 pages long.

The Obama administration took a different approach. It is true that Congress passed bank reform laws, and even created a new regulatory agency, called the Consumer Financial Protection Bureau, that had a real impact. But rather than restructure the banking system, the government chose to create a hyperdense web of new rules that would be layered over the big banks, allowing them to remain big but subjecting them to scrutiny and micromanagement. It was the regime spelled out in the hundreds of pages of the Dodd-Frank law in the United States and the international banking agreement called the Basel III accord.

Hoenig argued that this was a losing game. He said that bank rules needed to be simple in their aims, easy to understand, and straightforward to enforce. He argued that the banks should be broken up again as they had been under the New Deal. Banks should once again be divided up by their function, with commercial banks handling insured customer deposits, while other banks did riskier things like trade derivatives contracts. This division would help ensure that taxpayers were on the hook only to insure deposits at commercial banks (which would still be covered by FDIC insurance), instead of extending that safety net to megabanks that held deposits and also engaged in riskier speculation. Once the banks were broken up, Hoenig believed, they needed to live by simple rules that determined how much capital they should keep on hand in case of an emergency.

The key idea behind the Hoenig rule was breaking the riskier parts of banking away from the economically vital parts (like making business loans), so that the riskier banks could fail without taking down the rest of the system if they made bad bets. The financial columnist Allan Sloan, who wrote for Fortune and The Washington Post, published a widely read column after Hoenig’s Senate hearing that said the Hoenig rule is exactly what Wall Street needed. “It’s so simple, it’s brilliant,” Sloan wrote. “It’s a smart separation of high-risk from low-risk activities.”

While the taxpayers have taken a beating from Dodd-Frank recently, maybe it helped some folks previously?

The very complexity of Dodd-Frank, while vexing for the banks, became helpful to the biggest institutions. The law spawned about four hundred new rules, and each rule became a small regulatory quagmire of battles as it passed through a long process to become finalized by agencies like the FDIC. This gave the banks numerous chances along the way to dispute every detail of the rules. One rule, on the regulation of derivatives, received 15,000 public comments. Some agencies were so overwhelmed that they missed deadlines to put the law into effect. By 2013, only about one third of the law’s rules had been implemented. The banking lobby didn’t let up. It spent about $1.5 billion on registered lobbyists alone between 2010 and 2013, a figure that didn’t include the money that went into public campaigns or think-tank papers. The Dodd-Frank system tried to manage the risk inside big banks while allowing them to grow bigger. One of the key ways it did this was through something called a “stress test,” a procedure championed by Obama’s Treasury secretary, Timothy Geithner. The stress tests required banks to pretend that they were facing a crisis, and then to explain, in writing, why they would survive it. To pass a stress test, the banks had to prove that they had enough capital on hand to cover losses during a hypothetical crisis. But this just opened a lot of debate over what counted as capital and even what counted as a crisis.

Basel III was a similar fraud, according to the author, allowing banks to hold minimal reserves on the theory that Greek government bonds could never default. JPMorgan Chase had a capital ratio under Basel III of 12 percent, but that could also have been as low as 4 percent under conventional accounting rules.

The Fed printed money every day that these debates were going on.

Between 2007 and 2017, the Fed’s balance sheet nearly quintupled, meaning it printed about five times as many dollars during that period as it printed in the first hundred years of its existence. All those dollars were forced into a zero-interest-rate world, where anybody was punished for saving money.

The McKinsey Global Institute, for example, determined that the Fed’s policies created a subsidy for corporate borrowers worth about $310 billion between 2007 and 2012 alone, by pushing more money into corporate bonds. During the same period, households that tried to save money were penalized about $360 billion through lost earnings on interest rates. Pension funds and insurance companies lost about $270 billion during that time, and that was just the beginning of the ZIRP [zero interest-rate policy] era.

The Fed’s policies created such an intense and broad-based search for yield that the risks were building up all over the place.

One hedge-fund trader, who was a bit more caustic by nature, described the frothy stock market of 2016 as being like the crowded deck of the Titanic as it sank. The deck wasn’t getting crowded because it was a great place to be. It was getting crowded because people had nowhere better to go.

Every bad and money-losing idea got funded, thanks to Uncle Fed’s cheap money. Hoenig pointed out that unwinding would be almost impossible because all of the investments and decisions that had been made on the basis of cheap money forever.

It is fashionable in corporate media (as Ron DeSantis likes to call legacy journalism that is aligned with our rulers) to blame SARS-CoV-2 for our woes. Since #Science requires us to shut down our economy, print/borrow $20 trillion, etc., any time that a new virus appears, Congress and the Fed cannot be blamed. “What Really Broke the Banks” (Atlantic, March 23, 2023) is typical: “The Fed, among others, is blameworthy. But the ultimate culprit is COVID-19.”

The Lords of Easy Money: How the Federal Reserve Broke the American Economy shows that our overlords were eagerly printing and borrowing before governors ordered lockdowns (except of marijuana stores, of course!) and school closures and before Congress created the $600/week Xbox Corps:

Between September 2019 and February 2020, the Fed created about 413 billion new dollars in the banking system, judging by the increase of its balance sheet. This was one of the largest financial interventions of any kind in many years.

The author reminds us that, although the governors and most Americans were willing sheep, it was the CDC that shepherded young Americans into cowerhood:

On February 26, a U.S. health official turned this concern into a panic. Her name was Nancy Messonnier, and she worked at the U.S. Centers for Disease Control and Prevention. During a conference call with reporters, Messonnier said that the virus was spreading quickly, humans had no natural immunity to it, and there was no vaccine. The United States was probably going to have to do things like close schools and keep people at home.

When confronted by a novel virus, the Fed acted like our 7-year-old when the 5-year-old plugged his ears and said that he didn’t want to hear the same story over and over: “Okay, I’m just going to tell it to you louder.”

Powell’s Fed [in a March 15, 2020 meeting] would do virtually everything that Ben Bernanke’s had done in 2008 and 2009, but this time did it in one weekend, rather than over several months. It slashed interest rates to near zero. It opened up their “swap lines” with foreign central banks, flooding them with dollars in exchange for their local currencies (this was important because so much global debt is denominated in dollars). It executed a new round of quantitative easing, worth a total of $700 billion, and bought the bonds at a faster rate than before. The Fed would buy $80 billion worth of bonds before the following Tuesday, meaning that it pushed as much money into the banking system in forty-eight hours as it had done in the span of a month during earlier rounds of QE. It gave forward guidance, promising to keep rates pinned near zero as long as necessary. And it launched all of this in one day.

But by Friday evening, March 20, a week of financial carnage proved that the Fed’s actions weren’t enough to stem the panic. By this point, Powell was already designing the next phase of the Fed’s bailout, which would push the central bank into areas it had never been to before. The bank would, for the first time, directly purchase corporate bonds, CLOs, and even corporate junk debt. This would expand the Fed Put to entirely new realms of the economic system, changing the debt markets from that point forward.

The author describes how the Fed created $3 trillion in 90 days, a full three hundred years of money printing prior to 2008. What about Congress’s great works under the #coronapanic rubric?

… more than half of all the PPP money went to just 5 percent of the companies that received the loans. Even that figure understated the narrowness of the impact. Fully 25 percent of all the PPP went to 1 percent of the companies.

About $651 billion of the CARES Act was in the form of tax breaks for businesses, which were often complicated to obtain. This meant that the tax benefits went largely to the big companies that could hire the best tax lawyers. The Cheesecake Factory restaurant chain, for example, claimed a tax break of $50 million, even as it furloughed 41,000 people. About $250 billion of the tax breaks were given to any business in any industry, without regard to how much they might have been hurt by the pandemic. People who owned businesses were given tax breaks worth $135 billion, meaning that about 43,000 people who earned more than $1 million a year each got a benefit worth $1.6 million.

The rich hadn’t been getting rich enough during 20 years of mostly-free money and 30 years of open borders providing $500 billion/year (pre-Biden dollars) in transfers from the working class.

I kept wondering in this blog how the numbers could be real. With Americans paid to sit at home playing Xbox, their out-of-school-for-12-to-18-months (Boston, San Francisco, LA, NYC, etc.) kids moping around the house, how were rising stock market and GDP numbers believable? The author points out the same apparent contradiction:

As always, asset price inflation was portrayed in the media as a boom. And this time the boom was so intense that it was almost surreal. Millions of people were out of work, millions more were in constant danger of being evicted, restaurants were shuttered, and hundreds of thousands of people were dying. But the debt and equity markets were on fire.

The bailout of 2020—the largest expenditure of American public resources since World War II—solidified and entrenched an economic regime that had been quietly and steadily constructed, largely by the Federal Reserve, during the previous decade. The resources from this bailout went largely to the entities that were strengthened by the policies of ZIRP and QE. It went to large corporations that used borrowed money to buy out their competitors; it went to the very richest of Americans who owned the vast majority of assets; it went to the riskiest of financial speculators on Wall Street, who used borrowed money to build fragile positions in global markets; and it went to the very largest U.S. banks, whose bigness and inability to fail was now an article of faith.

How does a former New York Times journalist write about the January 6 insurrection?

On January 6, 2021, thousands of violent extremists laid siege to the United States Capitol. … It was the most effective attack on American democracy since the Civil War, and it marked an entirely new level of volatility in American society.

It wasn’t Congress that had been stealing $500 billion/year from the working class via low-skill immigration that was attacking American democracy. Nor was the Fed attacking American democracy by stealing from the working class via monetary policy, chronicled in hundreds of preceding pages. It was the bullhorn-equipped QAnon shaman who launched the “most effective attack” (fortunately, according to state-sponsored NPR, this insurrectionist is still in prison).

How much did the Fed steal from Americans without college degrees, such as Jacob Angeli, the QAnon shaman? Hoenig published an essay in May 2020:

Hoenig compared the period of economic growth between 2010 and 2018 with the period a decade earlier, between 1992 and 2000. These periods were comparable because they were both long periods of economic stability after a recession, he argued. In the 1990s, labor productivity in the United States increased at an annual average rate of 2.3 percent. During the decade of ZIRP [zero interest-rate policy], it rose by only 1.1 percent. Real median weekly earnings for wage and salary employees rose by 0.7 percent on average annually during the 1990s, but rose by only 0.26 percent during the 2010s. Average real GDP growth, a measure of the overall economy, rose an average of 3.8 percent annually during the 1990s, but by only 2.3 percent during the recent decade. The only part of the economy that seemed to benefit under ZIRP was the market for assets.

Though copyright 2022, it seems as though the book was finished in 2021, before Bidenflation was established. The author predicts that Americans will pay a high price for the Fed’s easy money policies, but his last reference is to a March 11, 2021 story. The consensus view in Wikipedia is that the worldwide inflation surge began in the middle of 2021. So we can give the author some credit as a prophet!


16 thoughts on “Post #2 on The Lords of Easy Money (inflation and the Federal Reserve)

  1. Lie, damn lies and statistics. Let’s go with probability instead. Mean annual earning wage stagnated or even decreased 2010 – 2016 under Obama and somewhat rebounded 2017-2018 under Trump.

  2. re: “how were rising stock market and GDP numbers believable? ”

    One component of GDP is: “Government Consumption Expenditure and Gross Investment.”. I hadn’t checked how the various components played out this time:

    Obviously of course the influx of created funds into the financial sector and in stimulus was going to inflate investment assets and crypto before inflation hit other realms.

    An influx of more funds compared to the usual amount leads to more demand than supply for the crypto and for stocks since most of the crypto and stock shares aren’t up for sale at the current price and are intended by default to held for some longer period of time.

    In talk about the SVB downfall the topic of “mark to market” of assets often arose: the issue that the value of bonds or other assets were old and not what the market would value them at if they were actually all sold at once.

    If I create a company with no assets and issue 1 million shares and sell someone 1 share for $100: in theory that company is valued at $100 million. In reality: no one is going to buy all the shares at that value even if one person did. That describes the problem with claimed valuations for crypto when most people are just holding it: but if many people try to liquidate it falls rapidly since there is no inherent value). While stocks may have inherent value and some rationale for the trades: its still to some extent not as grounded in reality as people like to think.

    At any moment on the stock market: only a fraction of company shares are up for sale. So oddly in a sense the entire stock market has that problem of not having a value truly tied to reality of its total worth. An influx of new funds can inflate the price of shares trading hands which creates an inflated estimate of the value of all shares, even if the shares couldn’t be liquidated at that value in a run any more than crypto prices maintain a level in a run.

    • @RE, your stock analogy can really be extended to any asset including gold whose popularity and intrinsic value remains a mystique. Thus, it does not work in comparison to specifics of SBN implosion and you just describing basic facts of demand and supply.

    • The specifics of the SVB were explicitly related to the issue of “mark to market”. Their pool of HTM (Hold To Maturity) investments weren’t marked to market. There theoretical value was higher than their actual value. When a run hit, to satisfy it they had to dip into HTM assets and that caused the pool to be marked to market. Though I’d wondered about how that related to a run that was less than their assets even after that: and one news article (don’t have link handy) explained that they ran out of time since relevant sources of funds from the Fed (think it was the Fed) kept bankers hours and closed too early for them to get the funds that day and it was too late by the next morning.

      Yup, the point applies to gold and to any other market for anything where only a fraction of it is traded. That was the point, not general supply and demand, but that the trading of a subset of an asset can lead to illusory gains that don’t truly reflect on the value of the assets as a whole. The price is on the current trades which doesn’t give the true value if much of the asset were sold. There are some valuation methods that financial types tend to use the provide some grounding in reality and limit how far out values can get, but even those aren’t set in stone. The internet stock crash a couple of decades ago was driven by people suddenly collectively deciding their valuation methods for net companies were wrong.

  3. $1/2 trillion printed in March & no inflation reported today, so the party’s rolling on. As long as 1 thing drops in price, everything else can rise without inflation.

    • 0.4% inflation in February, about 5% annualized, on lower crude/oil costs, on top of recent inflation, food inflation as usual multiple of this, nothing to sneeze at. A regional FED promises at least one more rate hike until the end of the year.

  4. “Between 2007 and 2017, the Fed’s balance sheet nearly quintupled, meaning it printed about five times as many dollars […] The McKinsey Global Institute, for example, determined that the Fed’s policies created a subsidy for corporate borrowers worth about $310 billion between 2007 and 2012 alone,”

    This is a crazy way to explain what happened.

    Remember, the Fed targets 2% inflation and the lowest achievable unemployment rate.

    Between late 2007 and 2009:

    – The Inflation rate went from nearly 4% to less than 0%:

    – Unemployment went from 5% to 10%:

    In response, the fed dropped their rate from 5% to 0% and used quantitative easing to buy bonds:

    Using the word “subsidy” suggests there’s a fair interest rate that the Fed was dismissing because they wanted to make fat cats fatters.

    The Fed were doing exactly the right thing to pull the economy back towards their targets, and what everyone should expect the Fed to be doing.

    It’s hard to make the case that the Fed is responsible for letting dumb startups get funded.

    Leonard is just a hater.

    • How is inflation measured though? A basket of iPhones, subsidized milk and bread?

      The important things like housing and health care have gone up nearly 100% in Europe since 2008. I hear that the U.S. isn’t far behind.

      Free money had already started under Alan Greenspan, who allowed the tech bubble in 2000.

    • There’s no doubt that people are spending more on homes, health care, and education.

      But seeing increased prices in a few areas isn’t a sign of inflation.

      In the case of education, for example, it’s caused by the colleges realizing that parents will spend anything to send their kids to colleges, so they’re taking advantage of them by building nicer campuses, nicer dining halls, adding more administrators, etc. It’s not a story of spending more money for the same good.

      Health care spending has a similar story. People are unwilling to demand better value.

    • re: “Free money had already started under Alan Greenspan, who allowed the tech bubble in 2000.”

      Who “allowed” the tech bubble? Was he somehow supposed to prevent people from buying stocks they wanted to buy or prevent them from suddenly deciding “oops, we need to change how we value these stocks” in what was akin to a mass panic run. Partly it seems since many didn’t believe in the internet advertising model.. which of course eventually made Facebook and Google huge, and some didn’t believe companies would grow into their valuations like Amazon and that there was too much speculation about their potential growth that was unwarranted.. when of course many did grow. There were bad companies then: but it was also throwing out the baby with the bathwater in some cases since it wasn’t a rational process, more akin to a panic.

    • @David,

      > In the case of education, for example, it’s caused by the colleges realizing that parents will spend anything to send their kids to colleges, so they’re taking advantage of them by building nicer campuses, nicer dining halls, adding more administrators, etc. It’s not a story of spending more money for the same good.

      Don’t blame colleges, they are in the business of making money. Blame politicians for falsely promising that you must attend college to move up, the parents for saying “yes” to their kids’ naive requests because they want to keep their kids happy, and again blame politicians for opening the floodgate of student loans.


      > … that there was too much speculation about their potential growth that was unwarranted..

      The key word here is “speculation”. When will the government hold accountable the so-called talking head “experts” that we see live on TV? What about the station, such as MSNBC, CNN, Fox, etc, that hosts those “experts”? It’s about time to sue those talking head “experts” for their ill advice, just like you can sue your Dr. for malpractice.

  5. I didn’t make it very far into this rant, but the assertion that buybacks boost share price is wrong. In a buyback you are exchanging company cash for shareholder shares. That does not necessarily change the value of the company except if the shares are undervalued. The argument that it shouldn’t be done because it benefits the managers is inane-how else are you going to incentivize managers to return cash? Altruism?

    • re: “the assertion that buybacks boost share price is wrong”

      Prices are set by supply and demand. Any entity deciding “lets buy N shares of company X’s stock” increases the demand for shares and is likely to bid up the price compared to what it would have been without the lower price. It doesn’t matter if that entity is the company X itself. The intent then is the company has removed those shares from the pool of shares being actively traded. A reduction in the supply of something, without a change in demand, is likely going to lead to an increase in price.

      The issue though is what happens to demand. I’ve seen some react to such things as: “the company believes in itself and has the cash to buy shares back and thinks thats a better investment than putting it in a bank account or buying other assets, so it must be doing well. They believe that if they need cash in the future that the shares will be marketable so they must expect good things”.

      In contrast my reaction is: the company has pot of $D dollars and was considering the best thing to do with it. A growing company that sees the potential for expansion would reinvest that $D into growth. If its a tech company that should be growing: the implication should be they are acting like dinosaur with no place to invest that, so that should spook investors and lower demand. Also: the company isn’t confident enough in its future to simply return the cash as a dividend to investors. That means it either does think it may need cash in the future and could sell these shares again if needed, or it is indeed merely using the cash in a way that they hope will boost share prices to benefit those who own shares like management, perhaps since they hope to sell shares since they don’t see good things ahead and prefer to invest elsewhere.

    • PS, I should note there are exceptions to the thoughts above, the situation is difficult to interpret and depends on the companies. If a company is sitting on vast stockpiles of cash even after a buy back, is investing lots in R&D and expansion, it may be that somer particular investors prefer this to a dividend. Those that bought into growth stocks who were looking for returns based on stock price might prefer the company boost the price than use the cash for a dividend. I add that since one example came to mind of a company doing great that did a share buyback, but I don’t feel like taking the time to confirm my memory. They were’t the typical case. I remember a non public startup doing it when they should have reinvested in growth, and I was shocked that they tried to spin it as if it were good news and I figured the management had some way to unload shares and wanted to boost the price.

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