Let’s begin with the bottom line: The Federal Reserve’s monetary stimulus program generated a massive economic recovery that was, at its core, artificial.
Think about it for a moment: the interest rates were so low—near zero, in fact—that corporate borrowers practically had access to “free loans.”
And not only did the Fed pump Trillions of dollars into corporations and banks, but they also bought a variety of assets worth around $4 Trillion.
But let’s not allow these figures to divert us from the basic principle at stake here: any economy that is created out of “thin air” is fated to collapse.
Let’s go back to the issue of corporate borrowers. So, these loans were practically free.
When a bank lends you money, say, for a business venture, the proper course of action would be to adjust the interest rate based on the risk that you pose to the lender.
Issuing near zero-interest loans for corporations foregoes this common sense process. Yet we know that not all corporations will operate as efficiently or competitively as others. It goes with the territory.
So what did these corporations do with all these loans?
To be fair, let’s assume that a small handful of the best-run companies probably invested it wisely.
However, more companies most likely mal-invested the money into poorly-conceived projects that were doomed from the start.
But what's most disconcerting of all is the companies that used the cash to buy back their OWN stock.
What’s wrong with that? It’s an artificial way of elevating their own stock’s value.
Not only do we have an artificial economic recovery, but these companies also helped conjure up an artificial market.
This creates an illusion of growth, which is of course, false.
Their stocks rally, not because of company revenue, but because they reduced the number of circulating stocks in the market.
How much did debt-fueled stock buybacks contribute to the overall US stock market rally? Take a look at the chart below.
This chart shows how the S&P 500 and the Fed’s balance sheet purchase moved in lockstep.
Assuming the logic that this correlation suggests, if the Fed continues with its balance sheet reductions, then it should follow that stocks should crash.
Doesn't that appear to be happening now?
This kind of financial alchemy is problematic. If it raises an economy on the grounds of an illusion, then the disappearance of that illusion should cause a good portion of that economy to crumble.
No central bank can keep issuing debt forever. And sadly, the perpetual need for debt is what had fueled a good portion of our economic recovery.
If the Fed has the power to engineer an economic recovery, it also has the power to engineer its collapse.
Fortunately, with Donald Trump in office, the Federal Reserve can mask this collapse behind Trump’s actions, avoiding any blame for their actions.
Think of Trump’s tariffs, the fear of a trade war, etc. Most everyone attributes the recent market declines to Trump’s actions and rhetoric, sparing the Fed any negative exposure.
We’re not the first to mention this, but we’ll say it: don’t allow Trump’s “theater” to divert you from the real culprit: the Federal Reserve.
For as long as the Fed has been artificially manipulating our currency and economy, it’s surprising how so many Americans still look to a politician to blame or to pin their hopes on.