Two Examinations of US Economic Policy
by Michael Hudson and Paul Craig Roberts
Today I am pleased to present a double feature on economic policy. Michael Hudson leads off with an explanation of economic policy as a social cost to the working class, and I follow up with an explanation that US economic policy is an act of national suicide.
A couple of definitions: A rentier economy is one in which monopolization or concentration of ownership permits profit without contributing to the welfare of society. Economic rent consists of payments or a rise in value of an asset in excess of its contribution to output or the cost of bringing it into production. An example of economic rent is a taxpayer financed road or transportation system. The rise in land values constitute economic rents, unearned income or wealth unrelated to any activity of the property owner.
The Fed’s Austerity Program to Reduce Wages
The Federal Reserve Board’s ostensible policy aim is to manage the money supply and bank credit in a way that maintains price stability. That usually means fighting inflation, which is blamed entirely on “too much money.” In Congress’s more progressive days, the Fed was charged with a second objective: to promote full employment. The problem is that full employment is supposed to be inflationary – and the way to fight inflation is to reduce employment, which is viewed simplistically as being determined by the supply of credit.
So in practice, one of the Fed’s two directives has to give. And hardly by surprise, the “full employment” aim is thrown overboard – if indeed it ever was taken seriously by the Fed’s managers. In the Carter Administration (1777-80) leading up to the great price inflation of 1980, Fed Chairman Paul Volcker expressed his economic philosophy in a note card that he kept in his pocket, to whip out and demonstrate where his priority lay. The card charted the weekly wage of the average U.S. construction worker.
Chairman Volcker wanted wages to go down, blaming the inflation on too much employment – meaning too full. He pushed the U.S. bank rate to an unprecedented 20 percent – the highest normal rate since Babylonian times back in the first millennium BC. This did indeed crash the economy, and with it employment and prosperity. Volcker called this “harsh monetary medicine,” as if the crash of financial markets and economic growth showed that his “cure” for inflation was working.
Apart from employment and wage levels, another victim of Volcker’s interest-rate hike was the Democratic Party’s fortunes in the 1980 presidential election. They lost the White House for twelve years. The party thus is taking great courage – or simply being ignorant – by entering on this autumn’s midterm election by emulating Mr. Volcker’s attempt to drive down wage levels by financial tightening, which already has crashed the stock market by 20 percent.
President Biden has thoroughly backed up Republican-appointed Federal Reserve Chairman Jerome Powell in endorsing a financial crash in hope that it will roll back U.S. wage levels. That is the policy of the Democratic Party’s donor class and hence political constituency.
Thus, for Wall Street and neoliberal economic policymakers, the solution to price inflation is to push the economy into recession. Rising unemployment reduces aggregate demand, and inflation is brought under control by reducing supply and forcing workers out of their jobs.
This class-war doctrine is the prime directive of neoliberal economics. The Federal Reserve and IMF are the operating arms for impoverishing the masses. Whether it is Janet Yellen at the Treasury, the Federal Reserve, or the financial press, discussion of today’s U.S. inflation is framed in a way that avoids blaming the 8.2 percent rise in consumer prices on the Biden Administration’s New Cold War sanctions on Russian oil, gas and agriculture, or on oil companies and other sectors using these sanctions as an excuse to charge monopoly prices as if America has not continued to buy Russian diesel oil, as if fracking has not picked up and as if corn is not being turned into biofuel. There has been no disruption in supply. We are simply dealing with monopoly rent by the oil companies using the anti-Russian sanctions as an excuse that an oil shortage will soon develop for the United States and indeed for the entire world economy.
Covid’s shutdown of the U.S. and foreign economies and foreign trade also is not acknowledged for disrupting supply lines and raising shipping costs and hence import prices. The entire blame for inflation is placed on wage earners, and the response is to make them the victims of the coming austerity, as if their wages are responsible for bidding up oil prices, food prices and other prices resulting from the crisis. The reality is that they are too debt-strapped to be spendthrifts and haven’t enough disposable income after debt service to drive up prices.
The Fed’s Junk Economics of What Bank Credit Is Spent On
The pretense behind the Fed’s recent increase in its discount rate by 0.75 percent on June 15 (to a paltry range of 1.50% to 1.75%) is that raising interest rates will cure inflation by deterring borrowing to spend on the basic needs that make up the Consumer Price Index and its related GDP deflator. But banks do not finance much consumption, except for credit card debt, which in the United States is now less than student loans and automobile loans.
Banks lend almost entirely to buy real estate, stocks and bonds, not for consumer purchases of goods and services. Some 80 percent of bank loans are real estate mortgages, and most of the remainder are loans collateralized by stocks and bonds. The main price effect of less bank credit and higher interest rates is on asset prices – deterring borrowing to buy homes and arbitragers and corporate raiders from buying stocks and bonds. So the main price effect of less bank credit and higher interest rates is to reduce stock and bond prices and demand for home mortgages. Home ownership takes a large hit.
Rolling Back Middle-Class Home Ownership
The most immediate effect of the Federal Reserve’s credit tightening will be to reduce America’s home-ownership rate. This rate has been falling since 2008, from nearly 68 percent to just 61 percent today. The decline got underway with President Obama’s eviction of nearly ten million victims of junk mortgages, mainly black and Hispanic debtors. That was the Democratic Party’s alternative to writing down fraudulent mortgage loans to realistic market prices, and reducing their carrying charges to bring them in line with market rental values. The indebted victims of this massive bank fraud were made to suffer, so that Obama’s Wall Street sponsors could keep their predatory gains and receive massive bailouts. The costs of the fraud fell on the banks’ customers, not on the banks and their stockholders and bondholders.
The effect of discouraging new home buyers by raising interest rates is to lower home ownership – the badge of being middle-class. The Fed’s policy of raising interest rates will increase the interest charges that prospective new home buyers will have to pay, pricing the carrying charge of mortgages out of reach for some families. This follows the preceding run up in housing prices that is characteristic of a financialized economy. In short, the United States is turning into a landlord economy.
Real estate is being transferred from the middle class to private capital companies that turn homes into rental properties. Higher interest rates will not affect housing purchases by private capital companies, because they buy for all cash to receive returns as landlords just as the landed aristocracy did in England. Within another decade the nation’s home ownership rate may fall from 61 to 50 percent (and homeowners’ equity even lower), thus turning the the United States into a rentier economy.
How Much Economic Austerity Can a Debt-burdened Society Stand?
While home ownership rates have fallen, a decade of the Fed’s Quantitative Easing has increased its subsidy to those who hold troubled financial securities from $800 billion to $9 trillion – the rise in the Fed’s balance sheet during the QE period–of which the largest amount of rescued bad investments has been packaged home mortgages. This has kept housing prices from falling and becoming more affordable for home buyers. The Fed’s support of asset prices saved large insolvent banks from going under, but allowed smaller banks and the dispossessed homeowner to bear the cost. Sheila Bair of the FDIC singled out Citigroup, along with Countrywide, Bank of America and the other usual suspects as the beneficiaries of their own fraud.. The working population is not considered to be too big to fail. Its political weight is small by comparison to that of Wall Street banks and other FIRE-sector beneficiaries.
Lowering the discount rate to only about 0.1 percent enabled the banking system to make large gains by making mortgage loans at around 3.50 percent. The banks kept credit-card rates high – 19% — and made money on penalty fees for late payment. America’s wealthiest One Percent, and indeed the top 10 Percent, vastly increased their wealth in stocks, while the bond market had the largest boom in history. But most Americans have not benefitted from this run up in asset prices, because most stocks and bonds are owned by only the wealthiest layer of the population. The Fed is all in favor of asset-price inflation. But For most American families, corporations and government at all levels, the financial boom since 2008 has entailed a growing debt burden. Many families face insolvency as Federal Reserve policy now aims to create unemployment. Now that the Covid moratorium on the evictions of renters behind in their payments is expiring, the ranks of the homeless are rising.
The Biden Administration is trying to blame today’s inflation and related distortions on Putin, even using the term “Putin inflation.” The mainstream media support the narrative by not explaining to their audience that Western sanctions blocking Russian energy and food exports will cause a food and energy crisis for many countries this summer and autumn. And indeed, beyond: Biden’s military and State Department officers warn that the fight against Russia is just the first step to be followed by war against China’s non-neoliberal economy, and may last twenty years.
That portends a long depression in the Western world. But as Madeline Albright would say, our rulers think that the price–the destruction of the middle class which serves as a constraint on government– is “worth it.” As seen by the Biden regime, the New Cold War is a fight between the “democratic” United States, with its privatized economic planning in the hands of the financial class, and “autocratic” China and Russia, where banking and money creation are treated as a public utility to finance tangible economic growth instead of serving the financialization of the economy.
There is no evidence that America’s neoliberal-neoconservative New Cold War can restore the nation’s former industrial and related economic power. The economy cannot recover as long as today’s debt overhead is left in place. Debt service, housing costs, privatized medical care, student debt and a decaying infrastructure have made the U.S. economy uncompetitive.
There is no way to restore economic viability without fundamental changes in economic policy. But there is little “reality economics” at hand to provide an alternative to the class war inherent in neoliberalism’s belief that the economy and living standards can prosper by purely financial means, by debt leveraging and corporate monopoly rent extraction while the United States has made its domestic manufacturing uncompetitive – seemingly irreversibly. To reduce their labor costs in order to be competitive, U.S. corporations moved manufacturing offshore, thereby depriving the American work force of high value-added, high productivity jobs.
The Rentier Class Has Sought to Make America’s Neoliberal Privatization and Financialization Irreversible
The institutionalization of rent extraction has succeeded to such a degree that there is no party or economic constituency promoting the policies needed for an industrial recovery. Yet the Democratic Party leadership, subjecting the economy to an IMF-style austerity plan, will make this November’s midterm elections unique. The Fed’s role of providing easy money for the economy to give the ruling party at least the illusion of prosperity has been abandoned, and the Biden regime is running on a program of austerity.
The Democrat Party’s identity politics address almost every identity except that of wage-earners and debtors. Intending lower wages, more expensive financial charges for home mortgages and credit-card loans, and broken promises for student-debt write downs does not look like a platform that can attract many voters, especially as the administration pours money into Ukraine.
In previous times, the working class had champions. Today their interests receive little attention.
The United States Has Committed Economic Suicide
Paul Craig Roberts
The common tendency is to think of inflation as caused by too much money. In this way of thinking, the reason to raise interest rates is to make credit more expensive, thus causing less demand for loans and in this way reducing the growth of the money supply which, in turn, reduces inflation.
It is true that the US has had amazing money growth. However, very little of this money got into consumer prices. The Fed created the money (QE, Quantitative Easing) to bail out the large banks from their bad investments. In other words, the Federal Reserve created $8.2 trillion dollars with which to purchase bad investments that threatened banks’ balance sheets with insolvency. This money found its way, not into consumer prices, but into the prices of financial assets, such as stock and bond prices, and into real estate prices. Home prices were driven up, but the low interest rates lowered the carrying cost of mortgages.
The current 0.75 or three-quarters of one percent rise in interest rates cannot impact an inflation rate of 8, 10, or 12 percent. The real rate of return on debt instruments is hugely negative.
There is another way to think about inflation–an insufficiency of supply. Two major events have reduced supply relative to demand. The Biden regime’s Covid lockdowns stopped much production, destroyed supply chains, and resulted in the permanent closing of many businesses. On top of this supply reduction, the Biden regime’s sanctions against Russia and the world further reduced supply by prohibiting existing business relationships. Thus, supply has had two major reductions. Moreover, higher interest rates themselves raise costs, thus further restricting supply.
Additionally, for the past 25 or 30 years US manufacturers seeking lower labor and regulatory compliance costs moved their production for the US economy offshore to Asia, principally China. The current combination of Washington’s trade war with China and the ongoing Chinese Covid lockdowns have disrupted the flow of goods to US markets. To move production for your own consumers to another country is an insane policy. But Washington is prone to insane policies, and we are now paying the consequences.
So, what will be the principal effect of the Fed’s interest rate rise? The principle effect will be to price some home purchasers out of the mortgage market. This will enable the private capital companies to acquire homes for rental income. The result is to reduce US home ownership, to increase rental income to the rich, and to deprive citizens of the main source of middle class wealth accumulation–the rise in housing values. In other words, the Fed’s policy is just another attack on the middle class, further reducing its numbers and thus consolidating more power in the hands of the rich.
The equity and debt (stock and bond) markets rise with liquidity and decline when liquidity is curtailed. Higher interest rates are regarded as curtailment of liquidity. Therefore, stock and bond prices fall. Their fall reduces paper wealth. It causes losses to pension funds, thus endangering pensioners’ prospects. The loss of wealth reduces consumer expenditures. This is another factor in addition to the higher consumer prices in curtailing consumer spending, thus placing the economy into recession.
The open question is whether the large banks are now strong enough or whether they will be endangered by the decline in paper wealth. A few years ago the Fed tried tightening and had to abandon the attempt. This time the Fed might stay with it. The ruling elite has decided that Biden has to go. Inflation and unemployment are efficient means for the monied elite to get rid of a president. The Fed, of course, is the servant of the monied elite.
The enfeeblement of the US economy began with jobs offshoring. High value-added, high productivity jobs were moved offshore at far lower costs, thus raising the profits and share values of offshoring corporations, but reducing the income growth of the working population. “Globalism” was a cover for this desertion of American workers and the tax bases of cities and states, which to survive began selling off public assets to private interests. The question before the US is how does a country recover when it has placed so many of its own high income jobs into the economies of foreign countries. As far as I can tell, the Western world has committed economic suicide.