The Lords of Easy Money: How the Federal Reserve Broke the American Economy, by Christopher Leonard, Simon & Schuster, 384 pages, $30
In 2010 Thomas Hoenig, then the president of the Federal Reserve Bank of Kansas City and a member of the central bank’s Federal Open Market Committee, thought he was seeing history repeat itself.
In the early 1980s, when he was a vice president at the Kansas City Fed overseeing bank examiners, he had a front-row seat to a boom and bust in land and oil asset values, which gutted the Midwest’s economy. That painful experience stemmed largely from the Fed’s loose money policy in the 1970s, followed by that policy’s sudden reversal. Hundreds of banks had loans that depended on soaring asset prices, and hundreds of banks failed. Hoenig was responsible for helping decide which banks would live and which would die. He saw “lives were destroyed in this environment” and “people lost everything.”
Remembering that experience a few decades later, Hoenig did something the collegial structure of the Federal Open Market Committee was designed to discourage: He dissented. He began voting against the Fed’s ongoing policy of quantitative easing (Q.E.)—that is, the injection of new money into the financial system by purchasing bonds from well-connected “primary dealers” on Wall Street—because he foresaw another ultimately unsupportable rise in asset values along with increasingly risky behavior by privileged market players awash in easy money.
In The Lords of Easy Money, business reporter Christopher Leonard relies on Hoenig’s heretical perspective as a narrative spine for his detailed reporting on the Fed’s thought and action before, during, and after the 2008 financial crisis. The Fed’s drastic and continuous reactions to that downturn, Leonard’s analysis suggests, created an economy that automatically redistributes wealth upward and creates nearly irresistible incentives for foolish choices, as big money chases ways to make more money in a near-zero-interest-rate environment where merely saving means losing.
The Fed’s allegedly crisis-ameliorating methods were complex, but the essential animating idea was simple: Create more money. From 2008 to 2011, the central bank conjured up as much new money as had entered the U.S. economy in the previous century, a 96,000 percent increase. The Fed’s “balance sheet”—a measure of the financial instruments it owns, which it buys from a select group of Wall Street institutions, thereby expanding the money supply—grew by $1.35 trillion over just a few months in 2008, more than doubling the cash value of its assets. From 2007 to 2017, the Fed nearly quintupled its balance sheet.
The Fed occasionally tried to end the party, each time quickly relenting when the markets got spooked. Overall, the era since 2008 has been dominated by endless Q.E. and zero-interest-rate policies. The same bad incentives that Hoenig witnessed in the 1980s became enduring Fed dogma, generating waves of money that sloshed about until it was absorbed by assets, which in turn pushed up the prices of those assets.
All this balance-sheet expansion and cheaper-than-cheap credit from the Fed set off a decadelong binge of absurd behavior in big institutions. With interest rates essentially zero, you couldn’t just save. You had to make increasingly speculative investments, even as the Fed made you feel there was no way you could lose. Leonard is good at clearly explaining all the different ways these policies were enacted and all the damaging incentives they created as well as the wild gyrations the Fed has gone through to make sure big market players never lose.
The Fed’s policies triggered an orgy of what market watchers call the “reach for yield.” Since the promise of any return was better than what saving offered, all sorts of uncertain investments—corporate bonds, stocks, the oil industry, developing-world debt, real estate, fine art, even cryptocurrency—suddenly looked very attractive not just to hedge funds but also to traditionally more conservative money piles, such as insurance companies and pension funds. The Fed thus incentivized a recovery that mainly benefited asset owners—meaning the already well-off, since the bottom half of the income distribution owned only 6.5 percent of those assets.
These Fed-fueled speculative bubbles and price ratchets helped people with lots of assets or with access to giant piles of money, while harming those lower on the ladder. A McKinsey Global Institute analysis concluded that Fed policy “created a subsidy for corporate borrowers worth about $310 billion between 2007 and 2012 alone,” Leonard notes, while in the same period “households that tried to save money were penalized about $360 billion through lost earnings on interest rates” and “pension funds and insurance funds lost about $270 billion.”
And those were just the early years of zero-interest policy. Leonard attributes various much-lamented corporate policies of the past decade, such as downsizing and layoffs by companies bought with leveraged debt and money spent on stock buybacks rather than hiring or production, to bad incentives created by the Federal Reserve.
The longer the Fed trains big money to survive and thrive in this environment, the more drastic and hasty the Fed’s response to new problems. In March 2020, Leonard relates, Jerome Powell’s Fed did “virtually everything that Ben Bernanke’s had done in 2008 and 2009, but this time did it in one weekend, rather than over several months.” The Fed “pushed as much money into the banking system in forty-eight hours as it had done in the span of a month during earlier rounds of QE.” The Fed began ensuring that ever-wider swaths of assets would not suffer any downturn in nominal value on its watch. Its efforts to that end included direct purchases of corporate junk debt and collateralized loan obligations—agglomerations of corporate debt that are packaged and resold.
In Leonard’s telling, the Fed’s interventions benefited a small group of people at the top of the economy who owned assets or made a living by trading them. As he sums up the Fed’s 2020 actions, and in essence all of its actions since 2008, the beneficiaries were “large corporations that used borrowed money to buy out their competitors,” “the very richest of Americans who owned the vast majority of assets,” “the riskiest of financial speculators on Wall Street,” and “the very largest U.S. banks whose bigness and inability to fail [were] now an article of faith.”
Leonard is dismissive of critics who feared the Fed’s money pumping would produce rampant, economywide inflation. He prefers to focus on the policy’s allocative effects and risk incentives. Unfortunately for Leonard, his book was published before the consumer price index (CPI) rose more than 9 percent annually as of June 2022, its highest level in four decades. (As of October 2022, the year-to-year rise had fallen to 7.8 percent.)
Leonard was hardly alone in assuming that economywide price inflation fears were fantasies. The lack of large CPI increases during Alan Greenspan’s go-go 1990s era of low interest rates emboldened the Fed to keep doing more of the same. That approach blew and burst bubbles in tech stocks and housing, creating what Leonard aptly dubs the “everything bubble.” When stock and housing prices go up, Wall Street, the media, and the government don’t see it as worrisome inflation; they see it as a “boom” to be cheered and stoked.
As Leonard reports, Fed Chair Powell knew better before he became the man on the hook for keeping the game going. In 2013 he blandly but scarily observed that “we ought to have a low level of confidence that we can regulate or manage our way around the kind of large, dynamic market event that becomes increasingly likely, thanks to our policy.” Current CPI inflation means the low-interest-rate game is coming to an end. Given the decades of decisions made and risks taken based on the assumption that it would continue forever, we are likely to see a lot of grim piper paying in the near future.