With two big banks going insolvent over the past two weeks and others teetering on the brink of bankruptcy, fears of a systemic, cascading market crash are rising. Those are not implausible thoughts. For me, the greater concern is that the attempts of the federal government and central bank to shore up the system will be far more destructive than the demise of two banks.
Failures are instructive, not just destructive. We can and should learn from our mistakes. Things only work that way, however, if those who make the mistakes are required to pay the price for them. Bailing out the Silicon Valley Bank’s (SVB) depositors and extending government insurance to all bank deposits, as Joe Biden and Treasury Secretary Janet Yellen are doing, transfers responsibility from the depositors to the taxpayers. The taxpayers had nothing to do with the bank’s critical errors, until now.
Similarly, the U.S. Federal Reserve escapes all consequences for fueling the post-2008 bailout culture’s moral hazard explosion with a decade-plus of zero or near-zero interest rates. Those interest rates flooded the economy with cheap money, encouraging investment in unproductive ventures.
SVB’s business plan exemplified this, relying heavily on illusory valuations of businesses that were losing cash on operations and subsisting on infusions of capital fostered by low interest rates. Once the Fed drove up the price of money, SVB’s “investments started to underperform and its stock dropped, clients got cold feet and many moved their money elsewhere, triggering a bank run,” the Epoch Times reports.
This gets us closer to the real problem. The Fed is terrified of inflation and will trade a recession for it every time. When the Fed raises interest rates to fight inflation, it makes investment more expensive. The riskiest ventures go under first. The Fed always stops tightening too late, however, and good enterprises soon choke to death along with the bad ones.
The assumption is that the pain is necessary, that recession and unemployment are unfortunate side effects of the valiant fight to kill inflation. Millions of people must lose their jobs to pay for past inflation. As with the deposit guarantees, the people who made the mistakes are left unscathed.
Money, however, is not the only factor in the price equation. The supply of goods and services matters too, and the U.S. government has done incalculable damage to it. “In 1970 there were about [400,000] restrictive words in the Code of Federal Regulations. Now, there are over 1 million,” QuantGov notes. Then there is Biden’s war on fossil fuels, which raises business costs as well.
Meanwhile, the labor force participation rate has fallen to 62.5 percent—five percentage points lower than at the turn of the century. The population has aged, and just as importantly, government income-transfer payments have risen and states are ignoring work requirements. We’re paying more people not to work.
While suppressing the supply of goods and services, the federal government has been forcing up demand. Federal spending has increased by 40 percent over the past four years and nearly doubled since the year 2000 in inflation-adjusted dollars. All that money raises the effective demand for goods and services. Many state governments have been similarly irresponsible.
With government regulation, transfer payments, and spending vastly increasing the capacity for consumption while suppressing production, more consumer money is chasing a significantly slower-growing supply of goods and services. That is a classic recipe for price inflation.
The real culprit, then, is federal and state fiscal policy, especially over the past two years. The Fed’s easy money distorted the markets, but price inflation was not a problem until Congress and two presidents poured trillions of dollars of government spending into the economy. Unless you think the loss of majority status in the House of Representatives is a serious punishment, the perpetrators of this iniquitous enterprise are once again escaping unharmed.
The good news is that our economic problems can be solved easily and quickly. Cut government spending (starting with revocation of all the Biden-era spending increases), decrease taxes, reduce regulation, and don’t let the government pay able-bodied people not to work. The rapid economic renewal after World War II, the Kennedy tax-cut-initiated early 1960s economic expansion and restoration of American optimism, the Reagan boom, and the Trump economic recovery all show how quickly the American people can respond to fiscal and regulatory sanity.
Of course, these simple and necessary reforms face severe political headwinds. Until we accept the fact that government spending, regulation, and transfer payments are the root causes of our economic problems, the boom-bust cycles will only worsen, and the public, not the perpetrators, will always pay the price.
We need to learn the right lessons from our failures. If we expect to solve our economic problems through tight money, worse times are on the way.