Goals, Behavior, and a Disingenuous Federal Reserve

Why did you slug that kid? He called me a sissy.

Why did you buy that shirt? I wanted to look cool.

Why did you buy another cat? I love animals.

Why did you try-out for the baseball team? I like to play sports.

Why did your company buy that factory in China? We wanted better exposure in Asia.

Why did you try to kiss that girl? She was pretty.

Enough? What’s the point?

Behavior is rooted in goals. Behavior often makes sense. What is baffling is when an organization or a person seems to be engaging in behaviors that don’t make sense? Or maybe the goals that are forwarded seem flimsy or just wrong. As a result, you might want to know what the REAL Goal is. Why, really, are they engaging in that behavior?

That’s the way I feel about the Fed these days – the Federal Reserve System and its chair, Jerome Powell. I think they are shoveling a bunch of poo at us and we just lap it up. What is really going on there? My short answer is the Fed is like a lot of not-for-profit institutions that gain power and influence outside of the usual measures of profitability. They don't try to acquire wealth or income. Their real game is to increase the institution's employment, annual budget, or clout. 

In my previous post about the Fed I noted how different the Fed is today from how it started. It had simple goals in the beginning and those simple goals made sense. Now the Fed does everything from buying the vegetables to wiping down the grocery carts. 

The Fed is everywhere and is doing really weird things. And there is no stopping it. Pretty soon a pretty lady in professional attire with FED blazoned on her blue blazer will ask you if you want to sell your house? Or maybe your car? Or maybe your sad fat husband glued to the TV.

Why would the Fed take on all these questionable transactions? How is their behavior rooted in satisfying goals?

The Fed frequently discusses their goals.

They drove interest rates to zero and still didn’t think they did enough to get the economy humming. So, they decided to do other things. To keep doing things until the economy goes back to humming like an Edsel at a 4^th of July parade.

They noticed that various credit market channels were not functioning properly. Financial institutions couldn’t sell assets that had gone bad. If they couldn’t sell their assets then they could not lend out the other window. The Fed explained that markets were not functioning.

Those sound like good goals, right?

Wrong!

Until recently the Fed lived a straightforward, though challenging, life.

When the economy needed money the Fed bought government bonds and that resulted in lower interest rates. When the economy was growing too fast and threatened inflation they did the opposite.

            The Fed also worked with other regulators – the Controller of the Currency, Federal Deposit Insurance Corp, Securities and Exchange Commission, Credit Union National Association, and so on. While the Fed was on this team of regulators to oversee markets and institutions, it was always at a distance from those they regulated. 

Regulation meant setting rules of proper behavior and punishing those that broke the rules. It did not involve the Fed dealing directly and making transactions with households or firms or banks or governments with financial problems.

So here we are now with the Fed trying to unclog all sorts of markets by buying and selling everything from Tampax to New York State bonds.

What’s the point?

Here’s the point. If pushing interest rates to zero and dumping enough money on the US economy to fill our toilet paper needs through 2021 wasn’t enough, then why does one think that all this extra policy will have a major impact? How will all these loans and asset sales cause people to come out of their caves and start buying stuff at Target and the Green Lake Bar and Grill?

Credit channels were clogged? I don’t think so. Credit didn’t flow because the health panic caused a recession. In a recession people don’t pay their debts. Of course, credit was disturbed. But the Fed buying all those unsold assets doesn’t solve a thing. It basically throws money into financial institutions so they can lend that money to households and firms that have no capacity to pay them back. Figure that one out. Our government is trying to stimulate bad loans!

So why is the Fed doing this? How do they gain?

Does the Fed make more money by doing this? No

Does the Fed look sexier doing all this? No

Does the Fed solve the nation’s problems doing this? No

Does the Fed get more income from the government? No

Does the Fed get more income from anywhere? No

Does the Fed satisfy the impossible demands of those on the left who always believe that government intervention is necessary? Probably

Does the Fed gain power through its size and influence? Yes. 

The Fed’s employment has risen appreciably through 2018 and we don’t even have the 2019 numbers in, much less figures for 2020.The Fed’s operating budget during those same years also rose appreciably.**

The Fed doesn't have to do any of this stuff. The Treasury and Congress are the right bodies to use fiscal policy to address these kinds of structural problems. But those institutions are too chicken-hearted (no insult to chickens) to do their job. Those fiscal institutions have already created too much debt and they don't have the honesty or courage to take on the extra debt. Instead they look over at the Fed who has unlimited ability to increase the money supply. I can see our friends in the government in a huddle -- dudes we don't need to spend more. We can ask the Fed to spray money all over the place. Let them take the heat when things don't turn out. 

And the Fed is more than happy to oblige. Naw, inflation will never come back. To do all these new functions they need more and better paid staff and they need bigger operation budgets. A not-for-profit dreams about such growth.   

**I had a helluva time finding employment data for the Fed. The best I could do is find a table in the Annual Report of the Board of Governors that showed that between 2010 and 2018 the employment at the regional banks increased from around 15,000 to about 20,000;  and it did not increase at all for the Board of Governors. In total the Fed employed about 23,000 in 2018, an increase of about 18%. The annual operating budget went from about $4 billion to about $6 billion. That's a 50% increase.

***Not sure I believe any of that data anyway. The Fed does a wonderful job of publishing reams of data about private banks and the economy. It is a data horse. But when it comes to finding time series data for the Fed’s employment and operating expenses, start looking in dark corners and under area rugs. Could they be trying to hide something?

Is the Stock Market Ignoring Economic Data?

The Stock Market is Ignoring Economic Data was the headline of a Wall Street Journal article last week (April 17).

Here is the first paragraph of the article, “The Dow Jones Industrial Average staged its best two-week performance since the 1930s, a dramatic rebound that has left many investors with a confounding reality: soaring share prices and a floundering economy.”

This is the kind of journalism that drives me nuts and of course supplies me with nice topics to vent about. There are several points to be made about this paragraph.

First, it uses the words “soaring share prices.” Even the graph in the article is highly misleading. It never explains that the soaring prices are from an incredibly low starting point. No duh. The market declined a lot. My numbers show that the S&P 500 average declined about 30% from February 19 to March 16. Hmmm…no mention of that. Just soaring prices. 

It's like noting that your mother gained 10 pounds this week while failing to disclose that she lost 50 pounds the week before.

Second, in a similar vein, it says the S&P staged its best two-week performance since the 1930s. But folks, even after this “huge” increase, the S&P value remained at around 2800. That still puts it well below the high in February of 3390. My calculator says the S&P value was still about 20% below its value in February 2020.

It’s like saying that little Jimmy’s grades went up a whole bunch but failing to note that he still has a D average.

Third, the article implies that there is something strange or wrong about a stock market that rises as the economy is floundering. I think I covered that point in a recent post. 

The stock market says little about the strength of the economy today. Its value mostly registers expectations about the future. So, there is no story about contemporaneous changes in the S&P and the economy.

What’s left to say, therefore, concerns expectations about the future economy. And with regard to that I would venture a guess that however floundering the economy is right now, its performance in the coming year will likely be much worse. Did I say much worse? Yes.

Is the stock market today fully absorbing a very dismal future economy? I doubt it. Given the low values of the S&P today, it seems to have at least partially digested a very crappy future economy.

Do investors today fully appreciate the depth and duration of the coming recession? I doubt it. While the S&P values are not soaring, they clearly might still be too high given the reality of the future recession.

I am guessing that stock values will continue to fluctuate a lot – and perhaps around a very slight downward trend as we come to realize just how stubborn this recession is going to be.

And with that stock market prediction, I will end this magnificent post by reminding you what Sonny Davidson said to me more than once, “If you are so smart, Larry, then why ain’t you rich?”

The Fed's New Mission

On April 7, the Wall Street Journal posted the following article. The below link might not work for you if you are not a subscriber.

Below the link are some quotes I took from the article.

The Fed’s New Mission to Save the Economy.

https://www.wsj.com/articles/the-feds-new-mission-to-save-the-economy-11586214593?mod=hp_opin_pos_2

Already, the Fed has mounted an enormous and effective response to this national health-care crisis, drawing on its considerable institutional strengths.

It pulled off the shelf initiatives designed and perfected during the crisis of 2008. Some examples: injections of liquidity into the Treasury, repo, agency-mortgage and overseas markets, plus the rapid deployment of facilities that enable access to financing for commercial paper and money-market funds.

The Fed also invented new facilities—targeted at corporate and municipal bond markets—whose operation is similar to existing tools.

It moved quickly to relax reserve requirements, freeing up liquidity at the largest banks.

The Fed has even borrowed the European Central Bank’s nuclear-strength “whatever it takes” approach to forward guidance.

But now Congress has asked the Fed to enter uncharted territory: extending loans directly to large and small companies across a broad range of industries and geographies. 
(Note: On April 9th the Fed announced another historically new facility in which it adds local and state governments to those it lends to.)

Enough for the direct quotes. Not sure what image the above quotes create in your mind but what comes  up for me is Sylvester Stallone wrapped within a bullet vest, with guns on both hips, a bazooka on one shoulder, and a torpedo launcher on top of his head.

I love the title of the article – The Fed’s new mission to save the economy. Maybe a better title would be – the Fed’s new mission to save itself. Talk about abandoning decades of good practice only to replace that image of gravity and solemnity with a picture of the Lone Ranger riding up a hill with his trusty steed Silver. Hi Ho Silver Away. The Lone Ranger only had a couple of six shooters but we expected him to save both the town bank and  the damsel in distress. Miss Kitty could take care of herself but no. Hi Ho Steverino.

Lest you think I am wedded to only 1950s dramas, let me move on. Back to the Fed. One could sympathize with the idea of saving the damsel in distress but doesn’t anyone wonder if all those weapons are going to knock the Fed off its horse?

Can the Fed really do all that stuff? Do they have the know how? Do they have the personnel? Do they have any any relevant experience? Do they have enough weed? Seriously, it is one thing to imagine the Fed also shooting men off into space and solving world hunger, but are we being a bit romantic?

The Fed was set up more than 100 years ago – as I recall it was 1913 or thereabouts. The model set up worked pretty well – at least until we started getting loony in 2007. The idea was that the Fed could be an independent government entity that had one mission – make sure there was enough money in the economy. The simple idea was that for an economy to grow, it needed money. We thought of it as largely a long-term mission. If the economy grows by 5% per year, we need someone holding a monetary hose full of money that would let money increase just enough so as to not choke off that growth.

That was it. That was the hole tuna. Money and GDP growth. End of story. Capish?

As I said recently in a post, even the lord and master JM Keynes never saw the need for monetary policy to save us from recessions or even depressions. That job was left to the Treasury and Superman. Maybe Spiderman too.

Read that list above of what the Fed is doing to save us from tiny little viruses. We have gone from sanity to the Stallone. But worse than the Stallone is the Lone Ranger on Trigger with more weapons than even a plow horse could carry.

I have exhausted enough words and basically generated enough personal stress for the day and have not even got to the interesting part – evaluating each of the Fed’s new Superman roles and wondering what it means for the Fed to do all that stuff. So maybe I will save that for next week. I feel a nap coming on.

I hope you and your friends and families are finding ways to transition in these challenging times.

Covid and Boomers

This is one of those weeks where I stray from macro into things I don’t know a damn thing about.

But let’s face it – everyone seems to have read the millions of words written about Covid so far and have formed their own loudly communicated opinions. I know few people these days who don’t think they are smart and right about all this.

I am not going to jump on that pile. I was talking to a dear friend the other night from a distance of six feet and we got into a conversation about how people our age – say in the 70s – are having their lives wrecked by Covid. 

Here we are. The conversation reviewed our lives. We worked hard. We raised kids. We gave to our communities. We saved money. We are retired and were living the good life on our giant nest eggs and wham this thing come out of left field and smacked us in the back of the head. Ouch. 

All those dreams of cruises, drinking JD out of half gallon jugs, getting VD in Orlando -- all trashed in a mere moment. Now we can’t even go to Motel Six and we are down to drinking Heaven Hill. So sad for us boomers.

Whah whah whah.

And then we started wondering about other people before us who turned 70.  

     What about people who turned 70 in 1929?

     What about people who hit 70 in 1939?

     What about 1959?

     What about 1964?

     What about 1973?

     What did the old folks face in 1979?

The point of this short piece today is to bring out audience participation.

I won’t make light of the fact that Boomers today have very big challenges. What if you had hoped interest rates would be 7% per year. Or what if we had planned on the stock market rising another 20% ? What if we had some houses we hoped to sell at great prices? What if we had planned to work part-time jobs at restaurants and bars?

Somebody pulled the rug out from beneath us for sure!. But are we really so special?

The above list , however, included some interesting years. What was it like for a 70-year old in those years and immediately thereafter?

Did I miss some other years that were even worse for the newly retired?

This discussion won’t take away your hurting today. But maybe it might make you realize that you are not alone. The elderly have gone through difficulties before. Maybe we are not so special.

For you younger people – I am not trying to diminish your problems. Your cohorts may be suffering much more than boomers today. But since I just turned 74 in March, it seemed appropriate to focus on the complainers in my group. You are invited to participate in this exercise if you wish no matter what your age.

Stay well. I hope to see you on the other side. :-) 

The Length of the Coming Recession

I was in the Air Force stationed in Tucson, Arizona, in 1971. The Air Force let me take courses at the University of Arizona. I took a macroeconomics course from a young assistant professor named Frank Alessio. Best teacher I ever had. One of my fellow students was a very smart guy named Rick Kinonen. Rick and I studied macro together. He was really like a tutor for me.

I thought macro was very complicated, but Frank and Rick were patient fellows and helped me to learn it and remember it in ways I will never forget. There are two parts of the macro analysis that are useful for today’s topic. First is the difference between short-run and long-run in macroanalysis. Second is something called the multiplier analysis.

Let’s take the multiplier analysis first. This analysis stems from the idea that macroeconomic events roll out in waves. When the coronavirus first hit us, we tried to stay inside and we reduced what we bought – fewer vacations, fewer airline trips, fewer trips to restaurants, etc.

Wave 1 – virus impacted people who bought less from Macy’s, Alaska Air, Tacos Guaymas, Motel 6.

Then what? When employment and incomes of those firms and their employees was reduced, the people at Macy’s, Alaska Air, Latona Pub, and Motel 6 had less income, and they bought fewer groceries, less clothing, cars, houses and so on.

Wave 2 – now the sales of a broad swath of companies was reduced. 

And guess what? The incomes of their owners and workers got reduced, and they will spend less at wherever they shop.

Wave 3 – another drop in sales to even more companies.

Each wave’s impact will get smaller and smaller and eventually become negligible.

The sum of the impact on spending and income of all the waves is the total short run impact of the original drop in spending caused by the virus.

How long does all that take? We don’t know. We don’t know the length of the short run. Call it a year if you want to. But the point is that the negative economic impact is not going away tomorrow. All those waves are going to hit the shore.

Okay, so that’s the short run. Isn’t that bad enough? Nope.

The short-run analysis does not take into consideration a few things. It ignores whatever changes might be happening with respect to expectations of future wages and inflation. Wages and prices are often slow to change. Worker contracts help to slow the process. A weak economy often means that wages and prices will fall or at least slow their rise. But the results depend on which one of the two falls the most. If prices fall more than wages, this will hurt company profits and be another negative shock to the economy. If wages fall more than prices this will help firms but their employees will find the buying power of their paychecks falling. 

Short-run analysis also leaves out changes in productivity. If companies during a recession put off or cancel orders for new equipment or perhaps reduce their training budgets, this would reduce productivity, profits, and would cause a further contraction in output and income.

I see you are starting to fade. Don’t you just love macro!

This is why I needed so much help from Frank and Rick. But it is also pretty intuitive. Much is going to happen and so far about all we have heard is stories about how the virus is affecting spending. There are many more shoes to drop in both the short run and the long run. None of these bode well for a quick return to positive economic growth.

Can or will the newly announced stimulus packages offset these future waves? Maybe somewhat. But sadly our national debt was so high BEFORE all this started that the prospect of a huge increase in debt jeopardizes the benefits of the stimulus. I guess we will see.