The Federal Reserve is the weakest of the links in the US economy. Their timing is poor. They operate under two mandates and one works in direct opposition of the other.
Maintaining a stable money supply is one objective. Full employment is another. However, the Fed has a goal of 2% inflation and not 0% inflation, which is not stable, but inflationary. Additionally the Fed includes data in calculations that are not inflation based on monetary policy, but rising and falling prices due to greater or lesser demand.
That leads us to their second objective: full employment. When we get towards full employment, wages should rise and businesses compete for labor. But as soon as this were to happen, the Fed will stomp on the brakes.
We cannot get rid of the Federal Reserve despite the long term damage it is doing all around us. Politicians believe that we need their “wisdom”. The Federal Reserve itself has a God Complex, believing they are the saviors of the known universe. They are wrong. They believe that they can eliminate recessions and the swings in the business cycle. They are wrong again.
Let’s start with one basic fact that most everyone can agree on: “For Profit” businesses go in business for profits. Once you understand this motive, the rest becomes clear.
Let’s look at the rate of profit growth year over year for the period 2002-2006 for the four previous quarters ending in September of each of those calendar years.(Why September? Companies formulate their plans for the upcoming year prior to knowing what the fourth quarter numbers look like. So this is the most important period to review and research shows it has been the most correlated period to job growth that follows)
From 2002-2006, businesses were prospering. Year over year profit growth was strong and the US economy was adding jobs. The Federal Reserve began raising rates in 2004, and did not stop until 2006. By the time they completed their rate increases, year over year profits fell to near 0. The Federal Reserve destroyed all profit growth.
This was also the catalyst that burst the housing bubble. Businesses in their effort to return to a mode of profit growth, began to right-size their businesses. They did this by cutting staff. Staff who could no longer pay their mortgages began to default. This started to drop the value of homes that were clearly over-valued even at that time. What happened next, everyone knows. What people have generally failed to grasp is the catalyst that led to this bust-the Federal Reserve’s actions of raising rates too much and too fast. Remember, however, that they know best.
Year over year profit growth that was coming in at 18% soon dropped to 11 % and eventually to zero as the Federal Reserve continued to cut rates. But they were to late to save the economy from a recession.
And by the time the results had worked completely through the economy, Corporate Profits were down more than 7% year over year.
The Federal Reserve started their QE 1,2,and 3 programs to try to correct what was obviously a disaster started by their own actions. And to some degree they did. But the damage was deeper and further reaching than even they are willing to acknowledge, and their solutions only mask the underlying problems.
What this did, however was buy them some time. It allowed the Federal Reserve to hope that something was going to occur to restore the normal balance of economic growth that the United States has seen in the past. In the process the Federal Reserve still has not raised rates since June 2006.
We knew that the rates were now artificially low. People began to warn that we were now seeing signs of malinvestment in the economy. Home Depot’s debt has skyrocketed while it’s earnings have not. Share buyback programs are how companies decided to grow their earnings per share.
We waited for signs that the Federal Reserve would begin to normalize rates. That is probably a misnomer, because true normalized rates means that we would find the rates needed to attract dollars from savers into the bank. The Fed has determined it cannot rely on savers to act in their own best interest and therefore they have stepped in to fill this void.
The Federal Reserve, however, has not raised rates for years, and in all likelihood, have missed their opportunity for at least the near term, and maybe longer.
Year over year profit growth has been for the last two years at levels that the Federal Reserve would normally be cutting rates, and not raising rates.
No one can really confuse our economy with a robust economy. But it has been so long that most people cannot recall what a really healthy economy feels like.
If the Federal Reserve begins raising rates now, we are going to see even more damage to our short term economic performance. What can they do?
- Admit they have failed.
- End the reinvestment of QE1,2,&3 dollars. QE has not ended. But it is still there.
- End Rate setting and allow the markets to set real rates.
- Be honest and tell people this will be painful, but we will have a healthier economy in the long run.
Of course none of these things will happen. Gods do not admit mistakes. Gods ask you to make sacrifices, even if it is just for show.
What can you do? Live within your means. Recognize the warning signs that are right in front of us economically. Do not put all your financial assets in one basket. The carnage will not be the same across all spectrums.
And most of all, challenge the economic lies that we are being told. Unless we get to the truth, we can not get to a better economic future.