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Minyan Mailbag


Dear Professors:
I live in a small town in Indiana and have all types of friends in different levels of jobs. For the first time I am hearing some real despair from some of them about making ends meet. They're factory workers and retail sales people. The one thing that seems to be tops on the list is how much more they have to pay for health benefits. At the same time I have a friend who owns a carpet and floor covering business for 14 years now and he is on pace to have his best year he tells me. What do you make of all these cross currents? Does the carpet guy have to feel the pain like the factory and retail employees for things to matter in the economy? Don't we need the average guy healthy? Would this be the beginning of this stagflation scenario you see developing? How can retail and entertainment outlets not feel this eventually if this trend continues?
Edward Nasser

Yours is a ground-level description of an economy that is suffering through simultaneous booms and busts within different sectors and different geographies (states). Anything automobile or housing-related remains in boom mode whereas manufacturing and basic materials related industries are generally still suffering from the economic malaise that gripped the U.S. after the 2000 stock market bubble burst. You can see this in the aggregate macroeconomic statistics as well as in polling of consumer sentiment; some people are having the best year of the careers while others are nearing the edge of bankruptcy.

It would probably not surprise you that I feel that this economic condition is not merely an economy in transition from recession to growth where some participants are feeling the lingering effects of the past recession and others are benefiting from the new growth. No, the current conditions are the direct result of the Fed's easy money policy in the last 2 years. You have heard me say that a Federal Reserve policy of excess credit invariably and always creates an exacerbated boom-bust economic cycle. And you are seeing, first hand, the costs and benefits of that boom-bust sequence: some sectors "boom" at the expense of others that "bust".

One of the tenets of the Austrian school of economic thought is this: "nothing is free". Little appreciated is the cost of the Fed's low rates and nearly permanent policy of excess credit. I have, in past articles, explained that low rates hurt, for example, laborers (by making capital deployment more attractive than labor deployment) and senior citizens (those on fixed incomes whose income declines while costs stay the same or, as they have recently, increased). But there are others: as low rates "force" (there's that old moral hazard again) people to consume homes, cars, etc., other goods and services necessarily go un-purchased and un-invested in. Thus, some sectors boom - like those sectors lucky enough to be the beneficiaries of the Fed's credit largesse - and other sectors bust. You are simply seeing both the costs and benefits of the Fed's excess credit in the lives of your friends and colleagues.

How and when this artificial credit resolves itself remains to be seen, but I think I have made my case clear that such monetary policy tinkering has more costs than benefits in the long run. Such Fed activism disrupts the normal workings of a healthy economy: at the Fed's (and the administration's for that matter) discretion, some parts of the economy "benefit" from excess investment and spending while others suffer from too little of the same. But in the end, a handful of Fed officials cannot possibly be better at directing the productive resources of an economy as massive as this one than all the participants in that economy put together. Such hubris - the belief that the Fed can manipulate the economy in such a way that everyone wins and no one loses - is not only naïve, it is remarkably dangerous.

What the catalyst is that causes people to understand this I cannot say. But I can state with confidence that the continuation of the Fed's policy of monetary manipulation will only create a more, not less, volatile economy. Which means more mini-booms and more mini-busts. More friends having their best year ever and more close to bankruptcy. And, in the end, more risk and more instability in the financial markets.

Hope that helps, Ed.
No positions in stocks mentioned.

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