Has the Federal Reserve Failed?

No, this is not a satire. Now that Bazooka Ben (Bernanke) has been re-appointed as Chairman of the Federal Reserve after continuing Alan Greenspan’s bubble-bust framework (albeit, not as radically), it’s the perfect time to examine the Federal Reserve’s stated mission to see whether they are succeeding or failing.

According to the Federal Reserve’s website:

“The Federal Reserve System is the central bank of the United States. It was founded by Congress in 1913 to provide the nation with a safer, more flexible, and more stable monetary and financial system. Over the years, its role in banking and the economy has expanded.

Today, the Federal Reserve’s duties fall into four general areas:

  • conducting the nation’s monetary policy by influencing the monetary and credit conditions in the economy in pursuit of maximum employment, stable prices, and moderate long-term interest rates
  • supervising and regulating banking institutions to ensure the safety and soundness of the nation’s banking and financial system and to protect the credit rights of consumers
  • maintaining the stability of the financial system and containing systemic risk that may arise in financial markets
  • providing financial services to depository institutions, the U.S. government, and foreign official institutions, including playing a major role in operating the nation’s payments system.”

Let’s look at each duty in order …

1) Maximum employment, stable prices, and moderate long-term interest rates: Maximum employment has not been achieved for two reasons. First, we have seen an incredible number of jobs go oversees while chasing cheaper wages for the same blue or white collar quality labor (e.g., China and India, respectively). So long as the government does not subsidize health care, there is literally no way we can compete until wages in those countries catch up to ours. The Federal Reserve has not done a good job actively seeking a solution to this problem … it’s getting worse. Further, if you find the U6 Unemployment Rate of 16+% unemployment to be “maximum employment,” then it’s time to call ourselves Europe.

Headline Unemployment Rate (red) v. Total Unemployment Rate (purple)

Headline Unemployment Rate (red) v. Total Unemployment Rate (purple)

In addition, when US citizens are unemployed, we are now unemployed longer than ever before. Thus, the trend indicates another Fed failure:

Average (Mean) Duration of Unemployment

Average (Mean) Duration of Unemployment

Second, we have the issue of the bubble-bust cycle in employment. I have been out of school for over a decade and lived through two bubbles and two collapses. Most people in my generation have had at least three different employers in a very short time (Cf. my grandfather who worked for one company — Brinks — for 40 years). As a result, we live with constant anxiety that our jobs will blow up at any time, we have retirement savings that are constantly rolling over (which means we don’t get a chance to reach more favorable terms), and we have spent more time searching for employment than the meaning of life. If we are to create stability in our society (the underlying mission of both the government and Federal Reserve), then we need both maximum employment and stable employment.

Stable prices have not been achieved. With each bubble we’ve had a nice taste of inflation. During the most recent debacle, housing, food and gas prices went through the roof. In this category, the Fed delegated their holy duties to housing speculators, the corn lobby (e.g., ethanol), and oil speculators. If the Fed cannot drive policy to stop this bullshit, then again they are failing.

5 Yr Gas and Crude Prices

5-Year Gas and Crude Prices

Moderate long-term interest rates have been another problem for the Fed. I asked David Proman, a portfolio manager at a boutique investment management fund, to comment: “The Fed has failed at keeping moderate long term rates because they fail to anticipate problems and then are forced to react with throw-the-kitchen-sink-at-the-problem solutions. However, by then it is too late to keep rates moderate. Technically the Fed can’t actually control long term rates. They can only hope to through issuance of debt. The only rate the Fed can control is the Fed Funds rate which is an overnight lending rate. The rest of the curve goes from there. It is really a matter of opinion whether they succeeded or failed in keeping moderate long term rates. 10-year rates have risen over 110 bps from the December lows. 30-year rates rose over 200bps but have recently fallen back down again.  I think the market has done somewhat of a decent job of correcting itself across the yield curve, although I do not think we can sustain rates this low. It is extremely inflationary to keep rates incredibly low like this for an extended period of time. Due to the fact that we just experienced (and are still experiencing) some of the greatest deflationary pressures of all time, it is probably a necessary evil to keep rates low for a while. On whether the government has done a good job, I will say they did what they had to do after the fact. But from a preventative stand point, they really blew it.”

2) Supervising and regulating banking institutions to ensure the safety and soundness of the nation’s banking and financial system and to protect the credit rights of consumer: Where to begin? The recent financial crisis and economic collapse was due to a total failure to supervise and regulate banking institutions. As a result, banking institutions invented no-doc loans and we’ve had some of the biggest banking institution bankruptcies in US history. Further, the safety and soundness of the banking and financial system was completely obliterated when mortgages were allowed to be securitized (i.e., Mortgage Backed Securities) and scattered all over the globe while uncollateralized insurance (i.e., Credit Default Swaps) was sold on these shit-pit loans.

As for the credit rights of the consumer, what right does a consumer have to borrow money which has no plausible chance of being repaid? Is that good for consumers who can pay back debt? I’d love to see Bernanke write some erudite, algorithmic-based paper to explain that illogical phenomenon (blessed by the Fed).

3) Maintaining the stability of the financial system and containing systemic risk that may arise in financial markets: Do you own a house or stocks? Then you already know that this one may be the biggest kick-me-in-the-groin-and-spit-in-my-face joke of them all. A 25-year chart of the Dow Jones Industrial Average makes the case in point:

25-Year Dow Jones Ind. Avg.

25-Year Dow Jones Ind. Avg.

And insofar as containing systemic risk is concerned, since we just had the biggest systemic crisis since the Great Depression, I think we can use our jumbo-sized red marker to slap an “F” on this pseudo-science fair project.

4) Providing financial services to depository institutions, the U.S. government, and foreign official institutions, including playing a major role in operating the nation’s payments system: Well, we’ve finally stumbled upon something they actually do. However, to our detriment. One look at the long-term (89-year) value of the US Dollar and we can see that the Fed has simply inflated away the purchasing power of the hard working middle class.

Source: Zerohedge.com

Source: Zerohedge.com

So yes, the Fed has provided financial services to those friends listed above. However, in doing so they have borrowed from the future to keep up with the Jone’s of the present. This is not the American legacy of working hard and building a better future for tomorrow.

For the record, I do not think we should abolish the Fed (at least in one full-swoop). Such a drastic move requires tremendous skill and a delicate touch on the part of policy makers. Unfortunately, I consider the task as challenging as teaching a sasquatch how to dance the Nutcracker. Therefore, I leave the task to Congressmen Ron Paul and Alan Grayson to figure out if we can simply make the Fed fulfill their government delegated duties.Mini Free Trial Ad

In conclusion, this case could become a 1000 page dissertation on how the Fed fails us daily. I will leave that to those who have seven-years of Ph.D time to accomplish that goal. I, for one, have to get back to earning ever-deflating US pesos, I mean dollars, so I can buy another $4 gallon of milk and pay my unfair-valued mortgage.

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