Fed Action Accelerates Boom-Bust Cycle

FED ACTION ACCELERATES BOOM-BUST CYCLE

The 21st century was ushered in by fears about Y2k and how it might impact computer programming that was already in place. Part of the concern centered on the financial markets.

The Federal Reserve announced that they were ready to support the stock market and provide backup for financial institutions that might encounter difficulties.

The big day arrived and, other than an occasional glitch that seemed to be unrelated to the heightened global fears, the birth of the new century was pretty much uneventful. Overall, the markets remained relatively quiet. However, trouble was still brewing.

The hyper-bullish technology stock sector was about to reverse its nearly decade-long run to unsupportable and overly optimistic highs. At the center of the hype and fascination were new companies, headed by twenty-something geniuses. They were referred to as startups.

The multiples of earnings that normally applied in order to assess value of these companies was thrown aside. That is because most of them did not have any earnings.

Nevertheless, they were attractive enough to garner huge crowds of support.  Just the hint of a revolutionary idea could boost an unknown, small private company into the spotlight of the new issue market with oversubscription being commonplace.

Technology stocks collapsed in 2000, and were eventually joined by the broader stock market which began a two-year descent that saw the S&P 500 lose fifty percent of its value.

With sugar daddy Fed at the helm, prices recovered. Then, in 2006-07, real estate prices peaked  and cratered. Most of the obvious damage was in residential real estate.

Foreclosures were rampant and an entire cross section of the population was in transit, moving from their recently acquired new homes and into rentals, if they could find one.

Economic fallout spread to major investment banks and the stock market. Financial institutions with household names like Lehman Brothers, Merrill Lynch, Washington Mutual, and AIG were skewered.

The stock market finally recognized how bad things were. Beginning in August 2007, and continuing for the next eighteen months, stock prices declined with a vengeance. The overall market, as reflected by the S&P 500, lost nearly two-thirds of its value.

In February 2009, a bottom was reached. The past ten years has seen the market surge to new all-time highs, seemingly much higher than could have possibly been anticipated just a few years ago. All of it has come with ‘help’ from the Fed.

In the most recent example of huge volatility and financial turmoil, the stock market dropped by one-third in three short weeks. It was worse than the initial crash of the stock market in 1929.

Some say that fear and economic dislocation due to the COVID-19 pandemic was the culprit. I don’t think so. All asset prices were artificially elevated due to previous Fed reflation efforts. A lack of fundamental underpinnings had left the stock market extremely vulnerable to a selloff of considerable magnitude, regardless of the specific trigger event.

Not withstanding their broken record of bailouts, lower interest rates, and credit expansion, the Fed responded similarly again.

It was not exactly an about face. After a half-hearted attempt to return interest rates to more normal levels, the Fed had already begun lowering interest rates incrementally.

Several years ago, the Fed began raising interest rates because they were concerned that continued easing could again trigger huge declines in the US dollar. On the other hand, raising rates raised the possibility that the system would not tolerate the restrictions well enough to get better, and another collapse might ensue.

The collapse came anyway. If you think it doesn’t matter what the Fed does anymore, you might be correct.

“The Federal Reserve doesn’t know what to do. That’s too bad. For all of us.
The bigger problem is that it probably doesn’t make much difference what they do – or don’t do.” (see The Fed’s Dilemma)

Almost all Federal Reserve activity is comprised of reactions to problems that resulted from their own actions. And it has been that way ever since the Fed opened for business in 1913. (see Federal Reserve – Conspiracy Or Not?)

Over the course of the last century, the Federal Reserve has destroyed the value of our money. The U.S. dollar today is worth less than 2 cents compared to its purchasing power in 1913, when the Fed began its life on earth. This is a direct result of the inflation which the Fed creates continually by expanding the supply of money and credit.

Their initial attempt at controlling the financial markets ushered in the most severe depression in our country’s history beginning with the stock market crash in 1929. Former Fed chairman, Ben S. Bernanke agrees:

“Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.”…Remarks by Governor Ben S. Bernanke at the Conference to Honor Milton Friedman, University of Chicago Chicago, Illinois November 8, 2002

Promises, promises. Six years after his speech, Governor Bernanke presided over absolute catastrophe in the financial markets. Cheap credit and ‘monopoly’ money had blown bubbles in the debt markets that popped.

The beat goes on. Federal Reserve policy and actions are an abuse of fundamental ecomomics. The effects of their actions are hugely volatile and unpredictable. Their actions and effects have spawned problems that are nearly insurmountable.

Knowing these things doesn’t help much. The Fed can only react to the same news and headline statistics that we all see and hear.

Fed policy, special funding efforts, infinite money and credit creation – all of them combined may temporarily appease the dragon; but they will never slay it.

(also see Federal Reserve And Market Risk)

Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN’T, AND WHO’S RESPONSIBLE FOR IT and ALL HAIL THE FED!