A commentary submitted May 10th
Inept government, unfettered greed, impaired judgment, deception, and questionable business practices flooded the markets during the past decade with cheap capital which distorted interest rates, hyper inflated property values, and abnormally prolonged our last business cycle. Uncertainty and anxiety continue to destabilize markets as Americans continue to digest and adjust to the implosion in real estate, the volatility in stocks, a crippled economy, and a protracted period of deflation accompanied by intervals of stagflation and inflation in various markets. To compensate for these abnormalities, the Federal Reserve has continued to distort the natural cycle by artificially holding interest rates at unprecedented low levels to accommodate markets and allow large banks to build reserves and strengthen balance sheets, thus rewarding them for their bad behavior and mostly self-inflicted debacle. Sadly, this accommodation has affected many sectors of our population, but none more than our senior citizens who have been forced to invest in riskier asset classes because of the nominal returns realized on their fixed income investments. And, the ‘Fed’ has done this without confidence or any real assurance as to what impact their actions may have on future interest rates when the economy begins to accelerate.
Our next upward business cycle will not see the accommodating interest rates experienced after ‘Fed’ Chairman Paul Volker slammed on the brakes in the seventies and rates peaked at 21.5% in 1981 before moving steadily downward to their current historic lows. Interest rates tend to have a 25-30 year life cycle of their own, and a new upward cycle is about to begin. Although the first third of an upward cycle can often stimulate growth, the second and especially third terms can be most unpleasant. And if structural changes are not made to our economy and the way we govern our nation, regardless if Bernanke and the ‘Fed’ are successful in guiding our economy onto the road of recovery, the long term outcome will not have changed and the end result most likely will be economic Armageddon.
Although the Federal Reserve was established as an independent board to enact monetary policy to prevent the re-occurrence of the ‘Great Depression’ of the Twentieth Century, it seems, since the departure of Paul Volker, to have, instead, at times, become an instrument of the banking and investment industries. Driven by euphoria, hindsight, apathy and perhaps greed, the ‘Fed’ and Congress provided the fuel which allowed banks and financial institutions to flood the housing market with too many homes at a time when there were too few qualified buyers. Nearly all sectors of the economy ignored the fundamentals of supply and demand as they embraced supply side economics and saturated the market with too many goods for available demand. The aftermath of greed and unfettered capitalism led to the near collapse of our economy and the countries that followed in our footsteps.
Thomas Jefferson is often credited, although not validated with saying the following of the banking industry: “I believe that banking institutions are more dangerous to our liberties than standing armies. If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks, and corporations that will grow up around the banks, will deprive the people of all property until their children wake-up homeless on the continent their fathers conquered.” Other than a small segment which has been paraphrased from a letter sent in 1816 by Jefferson to his friend John Taylor, most content is either out of context or falsely credited. However, this does necessarily diminish the importance of the message or need to heed the warning.
We are currently enthralled in a catastrophe of our own making. Although certain geographic areas such as coastal Southwest Florida, Phoenix, and New York City have seen a surge in real estate sales, in most other areas of the country, banks continue to repossess cars and boats, and foreclose on properties while shielding inventories of yet to be released homes, an inventory that some believe to be well over four million homes. Unemployment remains stubbornly high, wages fail to advance, and home ownership is at a fifteen year low. Is there any doubt that the actions that preceded our current downturn illustrate the need for a more comprehensive monitoring of the astute behavior of those entrusted by the American people to guard us from unscrupulous practices and from the greed that we inflict upon ourselves? It would be unconscionable for us to ever again embrace practices that allow the formation, bundling, and erroneous grading of toxic assets knowingly diverted to the balance sheets of unsuspecting investors. And, it would be equally inconceivable to ever again allow homeowners to purchase property not realistically attainable, or to jeopardize their existing homestead by taking out second and third mortgages that would leave them vulnerable to losing their most prized and valuable possession.
The majority of economists say we are out of recession, but faltering. Some believe our recovery is insignificant and we are still in recession while others believe that a slow grinding recovery is the best path to future prosperity because too brisk of a recovery could cause a rapid spike in interest rates which would quickly dampen any recovery. It is difficult to know who is correct. However, Bernanke and the ‘Fed’ have done what Congress and a great number of other officials have failed to do these past three years; taken decisive action to avert calamity. Perhaps others in Washington could learn from their example.
Bernanke’s ‘Fed’ will either deliver America from the brink of self destruction or accelerate the path to economic Armageddon. Only time will tell if his guidance was visionary or flawed. But, it is indeed difficult to cite a ‘man’ for trying. We should all hope he is successful, for our investments and economic future are dependent on his judgment and performance. If his actions do prove successful, I hope he heeds the dire warning above, for banks should never be allowed to become ‘too big to fail.’ And, bankers should never again intentionally or inadvertently determine monetary policy or be allowed to intentionally inflate or deflate assets, hedge against their own actions, or let their failures force ‘Fed’ intervention. Although the ending of a natural long term lowering interest rate cycle provided the ammunition to spur an acceleration of investment money into the real estate market, it was unmistakably inept government, unfettered greed, impaired judgment, deception, and questionable business practices that nearly destroyed capitalism and the American and world economies.
In political writings and in conversations pertaining to the gains and losses to banks, we often hear the terminology ‘socialism for the rich and privatization for the poor’ when referring to profits and losses primarily of large banks. This gist of the context can be directly attributed to Andrew Jackson who, upon closing the Second Bank of the United States said, “I am convinced that you have used the funds of the bank to speculate in the breadstuffs of the country. When you won, you divided the profits among you, and when you lost, you charged it to the bank.” I wonder if he would have allowed banks to become ‘too big to fail,’ a luxury not afforded to small banks and regional banks that service our communities for should they collapse, they are put under new management and not allowed to benefit from their failure. As to allowing large banks to affect the printing of money, I believe that Sir Josiah Stamp, former President of the Bank of England best illustrated why this should never be allowed to occur when he said the following: “Bankers own the earth. Take it away from them, but leave them the power to create money and control credit, and with the flick of a pen they will buy it back.”
Let us hope that as a nation we have the good sense to ensure that banks never, by design or inadvertency, control our currency, and that we never again allow banks to become ‘too big to fail.’