The Fed’s unwritten mandate and why it only benefits the rich
The rich continue to get richer while the poor become poorer. This is the main conclusion of a recent survey conducted by the US Census Bureau (http://www.census.gov/newsroom/releases/archives/income_wealth/cb14-156.html).
The latest 2011 census revealed that the median net worth for households in the first two quintiles (i.e. the wealthiest 40%) increased between 2000 and 2011, while for the remaining three quintiles it declined. Put another way, the wealthiest 40% got richer while the poorest 60% got poorer which means the wealth gap widened during the period.
The economics of boom and bust, mainly led by financial assets, continues to dictate the rules in the new millennium and enriches those who already possess assets at the cost of the rest of the population. In this sense, economic policy has completely failed on wealth redistribution issues, and indeed has aggravated them.
In the field of wealth redistribution, both fiscal and monetary policy have utterly failed to correct the long-term imbalance between rich and poor and the widening of the gap between the net worth of these groups. Poor fiscal management during economic upturns led to a situation in which the US Government failed to intervene, ie raising taxes in times aplenty and now, with a debt pile surpassing her annual GDP, and a recent history of credit downgrades and government shutdowns, there’s frankly not much that “lame duck” President Obama can do…
While a redistributive fiscal policy faces significant opposition, particularly from the rich, the same is not true regarding monetary policy. Every time the Fed injects money into the economy and cuts interest rates, everybody seems to be happy, including not only the rich but also the poor. But unfortunately, such policies don’t benefit both groups equally and they certainly don’t give cause for celebration, in particular for the lowest earners.
Central banks, in particular the Fed, have become stock market-centric. The Fed simply lowers interest rates and engages in asset purchases as soon as it sees a bear market. Monetary policy is not synced with the business cycle but rather with the investment cycle. The stock market is a game between the twin emotions of fear and greed, and which sometimes ends well and other times ends poorly. It is not the job of the Fed to save those who lost money under such a game but it sure seems to be their unwritten mandate in recent years.
When the Fed inflates asset prices, it directly benefits those who own such assets. For the average Joe who barely covers his monthly expenses, a rise in the price of Amazon or Amgen may aswell relate to a distant planet as it has little or no interest to his income or life. Of course, Yellen and Bernanke would say that, indirectly, asset prices will lead to an increase in business investment and ultimately create the jobs that increase the income for the average Joe. Snag is, all the evidence shows otherwise…
Looking at the census we referred to above, the government shows that the net worth for all households actually decreased between 2005 and 2011. This decline was however unevenly distributed. The net worth for the first quintile decreased from $776,225 to $636,754, a decent 18% decline. But look at the info graphic below: the net worth decline for the last quintile was from $-915 to $-6,029, a fall for which I don’t even dare computing the percent change, as both the starting and the ending numbers are negative! For the quintile directly above (the fourth quintile), the loss in net worth was around 56%, which is triple that experienced by the first quintile. One can only conclude that market crashes affect all households but in very unequal terms, depending on their initial wealth.
Interestingly, if we consider the whole period between 2000 and 2011, the median net worth for all households decreased by almost 7%, but again it only decreased in the last three quintiles, as the 1st quintile experienced an increase of 11% and the 2nd an increase of 10%.
We must also consider the effects deriving from the last three years, during which the Fed has been particularly dovish, expanding its balance sheet to the trillions of dollars and triggering a massive rise in household net worth, which during Q1 hit a record high of $82.8 trillion. While I don’t have any updated data for the exact distribution after the 2011 census, having in mind that $67 trillion of the $82.8 trillion are held in financial assets and that the households in the highest quintiles (lowest net worth) have little or no financial assets, it is not difficult to come to the conclusion that during the last three years the rich have become even richer than before, mostly due to the increase in the value of financial assets, and which is of course a direct consequence of the Fed’s policy decisions.
At this point, something puzzles me: How is it possible that a financial crisis, can enrich those who own financial assets while impoverishing those who don’t?
While just after 2009, those owning financial assets experienced a large decline in their net wealth, the truth is that just a few years after, they completely reversed their losses, while those not owning financial assets were worth less than before. This is exactly the consequence of the current monetary policy which is tailored towards inflating financial asset prices but fails to drive any beneficial effect in the wider and real economy. So, while financial assets increase in price, jobs and GDP growth are much more modest, turning the Fed’s policy into a massive redistribution tool rather than a mechanism towards financial stabilisation. The problem is it is like a reverse Robin Hood – that is it takes from the poorest and gives to the richest!
The poor are deluded by low interest rates as these make it easier to pay for their loans, but the loss in jobs and the lack of real investment does not compensate them overall, in fact making them even poorer.
It would be much better to give money directly to the poor, as they have a much higher propensity to consume (eventually 100%). They will spend each extra cent received, which would magnify the multiplying effect of the fiscal policy. This in turn would induce businesses to invest more in production and increase supply, which in turn would lead to job and GDP growth. But the Fed, amazingly, believes giving money to those who are behind the financial crisis is the best way to make the economy grow.
Bring on the revolution!
Filipe R Costa
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