By William D. Cohan at the NYT
Janet L. Yellen, the chairwoman of the Federal Reserve, is regarded as a person of the highest integrity. And that is what’s so utterly confounding about the speech she gave in Boston last week about inequality. She did a wonderful job highlighting the growing disparity between rich and poor and how it is beginning to impinge upon what it means to be an American, but she ignored the fact that, in many ways, the Fed’s policies have compounded the problem.
There is no question that her remarks were a real shocker. We have been conditioned not to expect anything so honest, and in such clear and unequivocal language, from any top government official, let alone from the sitting head of the Federal Reserve.
That’s why it’s worth repeating a few of Ms. Yellen’s conclusions. “The extent of and continuing increase in inequality in the United States greatly concern me,” she said. “The past several decades have seen the most sustained rise in inequality since the 19th century after more than 40 years of narrowing inequality following the Great Depression. By some estimates, income and wealth inequality are near their highest levels in the past hundred years, much higher than the average during that time span and probably higher than for much of American history before then. It is no secret that the past few decades of widening inequality can be summed up as significant income and wealth gains for those at the very top and stagnant living standards for the majority. I think it is appropriate to ask whether this trend is compatible with values rooted in our nation’s history, among them the high value Americans have traditionally placed on equality of opportunity.”
Ms. Yellen’s speech seemed heartfelt. Yet, she has endorsed the Fed’s policies, started by her two immediate predecessors, Alan Greenspan and Ben S. Bernanke, that drove down interest rates to historically low levels – policies that have actually exacerbated the problem that she says she wants to correct.
She is failing to appreciate how Mr. Bernanke’s extraordinary quantitative easing program, started in the wake of the financial crisis, has only widened the gulf between the haves and have-nots. If she does understand, she certainly made no mention of it in her speech in Boston. Indeed, there was no mention whatsoever of the Fed’s easy monetary policies at all, let alone how they have helped to cause income inequality.
Quantitative easing adds to the problem of income inequality by making the rich richer and the poor poorer. By intentionally driving down interest rates to low levels, it allows people who can get access to cheap money on a regular basis to benefit in extraordinary ways.
The first beneficiaries are the big Wall Street banks, the so-called group of 22 primary dealers, which can borrow directly from the Fed, essentially free. Because banks are in the business of making money from money, they use the Fed’s money to make more money by trading with it, investing it in government debt and pocketing the profit or by lending it out at wide spreads. Thanks to the Fed’s low-interest rate policy, the big banks also make a lot of money by taking our deposits, which they also pay us virtually nothing for – my savings account pays me an annual interest rate of 10 basis points, or one-tenth of one percent — and lending them out at wide spreads. No other business on the face of the earth gets its raw material so cheaply. No wonder bank profits have soared.
Then there is the gift the Fed has given to Wall Street’s traders and investment bankers. The traders benefit because they know – and have known for years, thanks to the Fed’s telegraphing of its quantitative easing program – that the Fed will be a continuing buyer of their risky securities at (ever-rising) market prices. Since the onset of Mr. Bernanke and Ms. Yellen’s policy, the Fed’s balance sheet has grown to $4.5 trillion, from around $800 billion before the crisis. That’s a whole lot of securities bought at high, profitable prices and paid directly to Wall Street traders. The Fed might as well have been paying the traders’ seven-figure bonuses directly.
The Fed’s low-interest rate policies have also been a bonanza for Wall Street’s investment bankers – and their bonuses — as companies around the world race to raise debt capital at low rates. Wall Street, of course, takes a cut of every dollar of debt raised. The steadfastly low interest rates have also propelled the stock market to new highs. That, in turn, has also led to a bonanza of new equity being raised and more fees being paid to Wall Street.
Private equity firms also have benefited wildly from the low-interest rate environment. That allows them to borrow money cheaply and leverage the billions of dollars in equity – said to be $3.5 trillion these days — to buy and sell companies. The buyout firms, and of course Wall Street, also get fees from all this deal activity. The investors in private equity funds have benefited too, and this often includes state-employee and teacher pension funds. The endowment funds of colleges and universities have also benefited from the low-interest rate environment. But it is the fund managers, not the pensioners, who really rake in the money from this arrangement.
What if you are one of the millions of Americans trying to get by on a fixed income? Or is trying to live off savings? Ms. Yellen claimed in her Boston speech to understand the problem these Americans face.
“The lower half of households by wealth held just 3 percent of wealth in 1989 and only 1 percent in 2013,” she said. “To put that in perspective…the average net worth of the lower half of the distribution, representing 62 million households, was $11,000 in 2013. About one-fourth of these families reported zero wealth or negative net worth, and a significant fraction of those said they were ‘underwater’ on their home mortgages, owing more than the value of the home.”
And yet in the past five years or so, the Fed’s low-interest rate policies have buried savers and those on a fixed income because they can’t get a return without taking an inordinate amount of risk, by either investing in the stock market, which as we were reminded again last week can also go down, or by “reaching for yield” by investing in risky debt securities that are increasingly overpriced. Either way, Ms. Yellen’s policies are crushing these 62 million American households.
You might think that low interest rates might help those looking to get a mortgage to buy a new home, or those who want to borrow money to start a new business or expand an existing one. Unfortunately, as Ms. Yellen pointed out in her speech, this dream remains elusive for many Americans.
Thanks to the credit pendulum swinging back in the wake of the financial crisis, both home mortgages and small business loans are harder to get than ever. If you’re General Electric or Kohlberg Kravis Roberts, getting a loan from a bank is no problem; if you want to buy a new house in Peoria, good luck to you.
Maybe the Fed is delusional about the effects of its policy. In an interview over the weekend with The Wall Street Journal, Eric S. Rosengren, the president of the Boston Fed, denied that the Fed’s quantitative easing policies, which are supposed to end this month – we shall see — were benefiting the rich at the expense of the poor. If anything, he said, the “distributional effect” of quantitative easing is “likely tilted in the opposite direction” to actually helping the poor.
Let’s face it, until the Fed acknowledges the role it has played – and continues to play – in widening the gulf between rich and poor in this country, you’ll forgive me if I find speeches like the one Ms. Yellen gave in Boston last week to be more than just a little bit ironic.