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monetary policy

Do Lower Interest Rates Actually Make Income Inequality Worse?

by D.J. McGuire

Ever since John Maynard Keynes revolutionized the field of macroeconomics, left-wing and center-left politicians have included “expansionary monetary policy” – quoted because it’s the actual term – as part of their platform. Higher money supply and lower interest rates have been loudly endorsed by Democrats (and quietly cheered by many Republicans) since the Second World War at least.

President Trump himself has railed against the Federal Reserve’s recent (and paused) attempt to normalize interest rates from the period of extremely low levels following the Great Recession. Meanwhile, the left is also complaining loudly about income inequality, while recommending a radically expansionary monetary policy – known as Modern Monetary Theory – to “pay for it.”

The usual critique to “loose money” has been the threat of inflation. However, the lack of inflationary pressures during the past decade has eroded the power of that argument. Indeed, the lack of strength in the post-Great-Recession recovery has led many to wonder if quantitative easing was not expansionary enough.

A new paper from Ernest Liu (Princeton), Atif Mian (also Princeton), and Amir Sufi (University of Chicago) casts doubt on that theory. In fact, they propose that extremely low interest rates might have causedthe problems of slow growth and income inequality.

Liu, Mian, and Sufitheorize that excessively low interest rates – designed to encourage business investment – actually skew said investment towards larger and more dominant firms. This makes them moredominant in the process, turning more markets from competitive to monopolistic.

Now, microeconomic market structure normally isn’t considered a major factor in macroeconomic policies. In this case, however, Liu et al show that monopolistic markets lead to lower productivity and to slower growth. Moreover, while Liu et al don’t address income inequality per se, increased market power has been known to lead to suppressed wage growth and thus greater income inequality.

In short, Liu et al present an entirely different set of expected consequences for extremely low interest rates. Instead of faster growth, they lead to slower growth. Instead of higher productivity growth, the lead to lower productivity growth. While in theory enabling government to address income inequality, they actually exacerbate it by encouraging market concentration and monopolization.

More time and research is needed, of course, to see how much impact the market concentration effect truly has. More than a few economists will have questions about the paper, as it should be.

However, at the very least, advocates for looser money in general – and MMT in particular – might want to take into account the strong possibility that their methods are running contrary to their avowed policy goals.

D.J. McGuire – a self-described progressive conservative – has been part of the More Perfect Union Podcast since 2015. He is also a contributor to Bearing Drift.

Why Jay Powell Should Stay Right Where He Is

by D.J. McGuire

Having shaken the foreign policy establishment to its core (which, by itself, is not automatically a mistake) by choosing to cut and run from Syria (which, given the situation on the ground, definitely isa mistake), President Trump is now taking aim at the Federal Reserve’s independence in setting monetary policy.

President Donald Trump has begun polling advisers about whether he has the legal authority to fire Federal Reserve Chairman Jerome Powell, according to two people familiar with the matter, who described the President as newly furious at the Fed chief as markets tumble.

Earlier this year, Trump’s advisers told the President that it was doubtful he would have the law behind him if he fired Powell. But Trump has renewed the issue after the Fed again raised its benchmark interest rate this week.

So far, the White House hasn’t come to a final legal determination on Trump’s authority to fire his Fed chairman, whom he nominated a year ago. The law states the President can fire a Fed governor for cause, but it hasn’t been tested on the firing of a chairman.

CNN

This is what Trump said to his Treasury Secretary.

I totally disagree with Fed policy. I think the increasing of interest rates and the shrinking of the Fed portfolio is an absolute terrible thing to do at this time

Mnuchin via Twitter

For those of us in the economic field, this is the equivalent of using a nuclear weapon. As noted above, a Fed Chair has never been fired.

This will be a serious test for both political parties. For my old party (the Republicans), it will be about how much they are willing to let Trump abuse his power and shatter stability. Just about every opponent of Keynesian economics prefers sound money and stable economic policy. A president who fired a Fed Chair because he (Trump) prefers looser money would be the exact opposite of both.

That said, it is just as challenging for my new party (the Democrats). They’ll be willing to call out Trump on abuse of power and stability, but I wonder if they’ll be willing to defend Jay Powell for what he is doing.

This matters because Powell needs defending – not just on a constitutional level, but on a policy one as well. An expansion in its tenth year, a Keynesian sugar high tax cut that is over $150 billion annually, and price hiking tariffs on finished goods and inputs alike are a bonfire worth of inflationary kindling. Any Fed Chair worth his or her salt would respond exactly as Powell did – raising interest rates and reducing the balance sheet from quantitative easing. All that goes double or morefor a Fed Chair in Powell’s situation – with interest rates still well below normal and a balance sheet vastly swelled by quantitative easing.

Federal Reserve Chairman Jay Powell is doing exactly what he should be. As such, he should remain exactly where he is. I fear no Republican will be willing to say either. Many Democrats will say the latter, but I fear I may be the one of the very few willing to say both.

That doesn’t make me wrong, though.

D.J. McGuire – a self-described progressive conservative – has been part of the More Perfect Union Podcast since 2015. He is also a contributor to Bearing Drift.

I’m Fed Up With Trump’s Ramblings on Monetary Policy

by D.J. McGuire

Amidst the whirl and rush of the now painfully normal nonsense spewed by the president, few outside the financial markets noticed his comments on monetary policy during his interview with Reuters. They were important comments nonetheless – and discouraging on all fronts. For someone who defines his worldview on countering inflation, political chicanery on monetary policy, protectionism, and malinvestment (and for a quarter-century, defined himself as a Republican based on those things), I was saddened and angered – but not surprised – by Trump embracing all four (again).

This is Trump taking aim at the Federal Reserve:

“I’m not thrilled with his raising of interest rates, no. I’m not thrilled,” Trump said, referring to Powell. Trump nominated Powell last year to replace former Fed Chair Janet Yellen.

U.S. stock prices dipped after Trump’s comments to Reuters and the U.S. dollar .DXY edged down against a basket of currencies.

Trump, who criticized the Fed when he was a candidate, said other countries benefited from their central banks’ moves during tough trade talks, but the United States was not getting support from the Fed.

“We’re negotiating very powerfully and strongly with other nations. We’re going to win. But during this period of time I should be given some help by the Fed. The other countries are accommodated,” Trump said.

On one level, this is just typical bull-in-the-china-shop-talk from Trump, concerns about which are usually valid (and they are here) but still go ignored by his supporters (as will these). In this case, there’s more to it, which just makes things worse.

For starters, Trump is making clear that the domestic economy is not important in his thinking. I doubt he is even aware that the Fed actually has a legal mandate to ensure price stability. He is fixated on his trade war, period.

This means that inflation – which eats away at investment returns, creates havoc in labor markets, and increases suffering for fixed income recipients – is likely to be even worse than it is now (and at present, it’s bad enough to wipe out any wage gains – See Bloomberg), especially in policy areas where Trump can avoid the Fed. Last year’s tax cut was a prime example of a Keynesian, inflationary stimulus endorsed and signed by the president. I fear it won’t be the last.

Moreover, Trump’s comments are yet another sign that the Republican Party – which in my youth prided itself on sound monetary policy and a strong dollar – no longer has any interest in both. This makes it that much harder for the nation to learn and internalize the lessons of “quantitative easing” – the last decade’s experiment with radically expansionary monetary policy. Contrary to Keynesian orthodoxy, the mass monetization of any debt the Fed could find led not to roaring increases in aggregate demand, but rather a shift in thinking on paper assets. Bonds were treated as stocks (with a focus on price rather than yield) and a new asset bubble (in bonds) took the place of the last one (housing). Thus, not only did investment in the real economy remain slow to recover, but the asset bubble exacerbated wealth inequality, which further increased income inequality.

Under Janet Yellen, the Fed at least began the process on unwinding this error. Under Jerome Powell, it is now trying to bring interest rates back to at least normal without knocking the economy into recession. This is a tricky task in any time, let alone one where the President of the United States is demanding policies that would make the bubble even bigger (and more likely to pop, badly).

I know that Trump-Nixon parallels are in vogue, but the current president’s complaints remind me of his predecessor’s surrender on economic policy in 1971, when he announced, “We are all Keynesians now.” Trump is – with more verbiage and less intellect – effectively saying the same thing. Whether Democrats will note this and take political advantage by exploiting a new angle to win over never-Trump conservatives remains to be seen.

D.J. McGuire – a self-described progressive conservative – has been part of the More Perfect Union Podcast since 2015