By Steven McClurg
The current recessionary environment is precipitated by two events. The first is easy monetary policy creating zombie companies and unsustainable corporate debt. The second is a lockdown resulting from a reaction to a new and novel virus termed “COVID-19”, a scarier sounding word than the original “Corona Virus” previously used. In order to save the US markets from an economic death spiral and out of control unemployment, the Fed changed course from slowly increasing rates to quickly lowering rates to near-zero while purchasing more balance sheet assets than any time in history. We will call this “Easier Monetary Policy” to distinguish it from the last 10 years of “Easy Monetary Policy”. Is it working? It depends on who you are…
Tech Titans or Tech Robber-Barons?
Since the March 2020 market crash, the S&P 500 has risen 38%, while the top 5 market-cap tech companies, Facebook, Microsoft, Apple, Google, Amazon (or FMAGA), now make up 23% of the broad market index. Subsequently, the leaders of these companies have amassed more personal wealth than ever before, despite lower GDP and double-digit unemployment. As small businesses close their doors for good, larger entrenched companies have managed to grow; taking advantage of lockdown orders, PPE loans, and easy money flowing into markets. Thus stealing market share from their smaller competitors. Fed policy has certainly helped the very rich.
While larger businesses have been able to more easily access federal loans, negotiate for federal aid (such as airlines), and access lower rates in capital markets, small businesses have not. Lower interest rates do not apply to non-rated companies and seekers of small bank-loans. The rates for these businesses have actually gone higher due to their “risk” of not accessing the larger capital markets. The coupon a AAA corporation is required to pay has dropped from 3.04% at the beginning of 2020 to 2.03% today. Meanwhile, small companies cannot even get a loan, at any rate. Fed policy has created unfair competition between large, entrenched businesses and small businesses. In 2019, small businesses in the US employed 45% of private-sector employees. Fed Policy has so far hurt small businesses and their workforces.
Inflation has always been a tax on savers and retirees, at about 2–3% per year target. A typical retiree has to earn enough yield to cover both inflation and living expenses (outside of the principal drawdown). Inflation isn’t the only way to tax the retiree through the increase in CPI cost, though. Lowering interest rates is another way to do this. Working backward, The average American spends $38,000 in living expenses after age 67. Fifteen years ago, one would have to have saved $894,117 at the then-current risk-free rate of 4.25% in order to survive on $38,000 a year through retirement. Last year, in order to retire at 67, one would have had to have $1.9 million saved to retire on $38,000 year at a 2% risk-free rate. Today, savings have to be $6.3 million, as 10-year treasuries pay a meager 0.6%. The last estimate is assuming that all the money being printed doesn’t yield a higher rate of inflation, otherwise, $38,000 a year may not buy enough food. Workers planning on retiring at 67 may have to work longer, which doesn’t help open up jobs for the currently many who are unemployed. Fed Policy does not seem to be helping retirees. Probably not job seekers either.
Grading the Fed
Financial policy manipulation from the Fed is probably not the right answer to solve the problems faced by most of the country, as much of the problems were both created by easy monetary policy in the first place, and by local rules regarding business restrictions and shutdowns. The Fed seems to be judging itself by how well the stock market performs, but equity prices typically better correlate with inflation than most other assets. Inflation is easy to create if you have the power to create more money and to buy an unlimited amount of financial assets with that created money. By the standard of higher equity markets, the Fed has done an A+ job. By the standard of wealth creation or even basic economic needs of working-class, retired, soon to be retired, or unemployed people, the Fed has failed.
Given the Fed’s new mandate to boost stocks, equities should continue to rise higher through the election. This is true for most assets as well, both financial and hard assets. Bonds, though already in very low yield territory, should continue to go up in price, down in yield. Real Estate outside of large cities will further appreciate, as will other art and collectibles. The real loser is the greenback and other currencies whose central planning regimes continued to print.