My first thought when I read the soon-to-be infamous Sheila Bair op-ed in the Washington Post this weekend was to laugh out loud and share the $10 million-loan-for-everyone suggestion with the driver of the taxi I was traveling in through downtown D.C. My second thought was "damn, I wish I'd had written the case against ZIRP like that."
In fact we have written similar arguments as the former FDIC chairwoman articulated her humorous and cutting commentary. But not in the tone that she was able to articulate, shining a light on what has truly become a farce: the Federal Reserve's free money passed out in bulk to Wall Street to "support" the financial system. The idea Bair proposes is completely crazy, but that is the point. She is just articulating what Fed policy is for the financial system, and it is no less crazy to be handing them billions in free loans.
Here is a guide to understanding the Bair tongue-anchored-to-cheek op-ed. First she writes:
For several years now, the Fed has been making money available to the financial sector at near-zero interest rates. Big banks and hedge funds, among others, have taken this cheap money and invested it in securities with high yields. This type of profit-making, called the “carry trade,” has been enormously profitable for them.
So why not let everyone participate? Under my plan, each American household could borrow $10 million from the Fed at zero interest. [...] Think of what we can do with all that money. We can pay off our underwater mortgages and replenish our retirement accounts without spending one day schlepping into the office. With a few quick keystrokes, we’ll be golden for the next 10 years.
Such a suggestion is usually overheard at one of D.C. well attended liquor and beer distributing establishments. Well, except for the bond trading part. The difference between professional investors and Americans suddenly power-ball-lottery-winner rich is the disciple to "order up a few trades" as she puts it later in the piece. Theoretically, if everyone just bought sovereign debt and lived off the interest we could avoid an inflation problem of all that new money chasing far too few widgets made by a rapidly declining labor force. But it is much more likely that all that money would flow into the economy, ruining creditors who are paid back to complete the deleveraging cycle, but unable to buy much with the now worthless cash that has been paid back to them (via Fed helicopter).
Bair begins to expose her point when suggesting how the "carry trade" could be accomplished for America's new denizens of wealth:
The more conservative among us can take that money and buy 10-year Treasury bonds. At the current 2 percent annual interest rate, we can pocket a nice $200,000 a year to live on. The more adventuresome can buy 10-year Greek debt at 21 percent, for an annual income of $2.1 million. Or if Greece is a little too risky for you, go with Portugal, at about 12 percent, or $1.2 million dollars a year. (No sense in getting greedy.)
This is actually what financial institutions have been doing with all that Fed money. The bailout was supposed to shore up bank balance sheets so the failed institutions could lend. Quantitative easing was supposed to free up capital from assets and let the fresh money boost the economy. Zero interest rate policy (ZIRP) has long been declared necessary to encourage borrowing and keep housing prices propped up.
But all this has done is contribute to a limping, recoveryless recovery. As we predicted in Reason magazine two years ago, we've been going "sideways" for a while. And that is Bair's beef with the Fed.
She also has a barb to throw at Congress:
Of course, we will have to persuade Congress to pass a law authorizing all this Fed lending, but that shouldn’t be hard. Congress is really good at spending money, so long as lawmakers don’t have to come up with a way to pay for it. Just look at the way the Democrats agreed to extend the Bush tax cuts if the Republicans agreed to cut Social Security taxes and extend unemployment benefits. Who says bipartisanship is dead?
Fair point. When it comes to actually helping the economy, Congress goes AWOL. When it is time to score some political points, compromise abounds (under the cover of something substantive happening). Bair doesn't hold back from going after social issues either in the piece:
Because we will be making money in basically the same way as hedge fund managers, we should have to pay only 15 percent in taxes, just like they do. And since we will be earning money through investments, not work, we won’t have to pay Social Security taxes or Medicare premiums. That means no more money will go into these programs, but so what? No one will need them anymore, with all the cash we’ll be raking in thanks to our cheap loans from the Fed.
We can stop worrying about education, too. Who needs to understand the value of pi or the history of civilization when all you have to do to make a living is order up a few trades? Let the kids stay home with us. They can play video games while we pop bonbons and watch the soaps and talk shows. The liberals will love this plan because it reduces income inequality; the conservatives will love it because it promotes family time.
The frightening thing is that many of these attitudes are prevalent in American society even without the $10 million loans.
The tax code is skewed. The answer is not to raise tax rates—the income tax system is a terrible way to tax a society and just slows down the economy—but that doesn't make the lower tax rates paid by wealthier segments of society any less damning. At the very least, the incentive structure of the tax code is set up to drive assets into many unsustainable things (like housing) and away from funding public liabilities (as Bair notes).
Education is screwed up in America as well. Test scores are stagnant. High school graduation rates are sliding. Labor force mismatch issues are becoming an increasing concern. And it hasn't taken $10 million loans to end interest in math and history in many corners of America.
So is Bair's solution viable? According to her, "This is the best American financial innovation since liar loans and pick-a-payment mortgages... Some may worry about inflation and long-term stability under my proposal. I say they lack faith in our country. So what if it cost 50 billion marks to mail a letter when the German central bank tried printing money to pay idle workers in 1923? That couldn't happen here. This is America."
There will probably be more than a few out there who don't get the joke. But building on a pattern of loans without paper work to make everyone indebted to the Fed is not a serious policy proposal. Rather, her point is to channel the incredulous feelings of the readers into a criticism of the fact that the Fed does exactly this proposed idea, just with financial institutions instead of households.
It is crazy and it has to stop.