Submitted by Taps Coogan on the 15th of January 2020 to The Sounding Line.

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CNBC‘s Rick Santelli recently spoke with Mellon Chief Economist, Vincent Reinhart, about the Federal Reserve’s efforts to paper over structural problems in the financial system by expanding its balance sheet. Both gentlemen assert that the Fed’s attempts to stimulate the economy amount to little more than a series of intentional financial bubbles.

 

Some excerpts from the discussion:

Vincent Reinhart: “(The jobs report) was pretty tepid, but from the Fed’s perspective, it fits their narrative perfectly, right? We have economic momentum in that 143,000 jobs created is above that run rate that would keep unemployment unchanged. We have pressures on resources because a 3.5% unemployment rate is below the natural rate of unemployment and we don’t have evident cost and price increases picking up. So, that means that they can run monetary policy the way they want to, which is to keep the policy rate unchanged all this year.”

Rick Santelli: “…Now let’s encapsulate this in a very simple form. We have many excess growing. That’s undeniable. Whether stocks can stay here amidst that or not, I’ll hold as a peripheral issue. Weigh that against the solutions, versus just patching things over. We have an issue… After the credit crisis, how things like treasuries and munis, various credit of high quality, how they’re treated, how they are hoarded, reserves of course are paid interest, and all this has really clogged up the plumping. Just because we are pushing more pressure through doesn’t fix the pipes…”

Vincent Reinhart: “I think want you’ve just done is characterize the Federal Reserve as a serial bubble blower (Rick Santelli says “Yes”) and in order to keep macro economic outcomes on an even keel it does have to create excesses in different markets and that’s the dirty little secret of monetary policy. They hope they can keep things under control by their supervisory policies but they don’t quite have that right because what they’ve done is create elevated demand for reserves. They can make their balance sheet big because they’ve made big banks want to hold reserves…”

Indeed, the reason that the Fed’s highly accomodative policy has had such limited stimulative effect on the real economy (and why it has resulted in limited inflation) is because it was simultaneously met with new regulations that incentivized banks to increase their reserves held at the Fed. In other words, not only did the Fed print trillions of dollars and transfer it to the banks, the Fed pays the banks interest on their reserves in order to dis-incentivize them from lending it out. They then adopted regulations that prevent the banks from deploying reserves in exactly the type of situation that they have the reserves for, such as the liquidity shortfall in the repo market, resulting in the Fed transferring yet more money to the banks and subsidizing the repo market. It is a daisy chain of failed interventions that all stem from an unwillingness to let the free market send some badly needed price signals.

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