Economics

The Federal Reserve is the central banker in the United States.  The Federal Reserve is responsible for banking regulation, money supply, reserve requirements placed on banks, printing money and interest rate policy.  What the Fed really does is expand the monetary base in the economy.  What this truly means is a fascinating concept in the economics of money supply that is terribly misunderstood and misused.  Let’s Begin!

First to understand the Fed one must understand the multiplier principle and the concept of new money.  The multiplier principle simply stated is what a dollar spent in the market creates.  In other words when you spend a dollar, how many times does it turn over in the economy, or what factor does the dollar create.  If a dollar spent means another dollar spent, then the factor is two times; this concept is also known as the velocity of money.  Second is the idea of new money.  Equity is not new money.  Equity is normally just a transference mechanism.  In other words, a dollar invested by a person already had is a dollar sitting idle in a regular common equity share.  Investment dollars are normally not spent but sit idle until a dividend is perhaps paid.  This dividend was someone else’s money, often is reinvested, and therefore never really expands.  However, when options are attached to an equity share, if the call is covered, then these dollars will mean new money entering the system.  Options on equity shares are a fancy and tricky way of issuing debt in the equity market disguised as equity.  On the other hand, when the Fed prints money never circulated, and then loans it out, if it is repaid it is expanding the monetary base because it is new money injected into the system.  The Fed was designed to issue debt, and subsidize the governments demand for money, hence we the people.

Many people think debt is bad.  Debt for the common household is not a good idea unless there is more than enough cash flow to service the debt.  Government debt can always be serviced by printing new money and issuing public debt if the public, or a government is willing to purchase the debt instrument.  Government debt is new money entering the system expanding the monetary base.  This new money is turned over in the economy and has a multiplier effect.  As a result, government debt is the only real way an economy can expend outside of productivity increases and consumer activity.  Back in the 1980’s and early 1990’s the common thought by supply side economists was that too much government debt would eventually bring down the economy as Ross Perot, the presidential candidate in 1992 tried to convince the voter; well after 30 years this never happened.  Why?  The reason the economy never came to some cataclysmic failure was because government debt was still purchased and serviced.

In the 2008, the markets were in poor financial shape since the banking system was not supported by debt service, mostly from the housing markets poor quality of debt under the Federal Reserve chairman Alan Greenspan’s idea of deregulation along with the Congress.  What happened then?  The Federal Reserve embarked on a very aggressive monetary easing policy initiated by Ben Bernanke post 2008.  The expansion of the money supply led to the longest economic expansion in the United States history that is still going on from 2010 to now.  All the while government budget deficits increased, national debt increased, and wages did not keep pace with real inflation.

Currently the national debt is $23 Trillion, and people and governments are still willing to purchase it.  The idea that debt will bring the US economy down is a fallacy of great proportions, and at best a lie to keep the common voter confused by the aristocracy.  Had Ben Bernanke and the Federal Reserve not acted, the US economy would have gone into a downward spiral.

Consequently, debt that is good debt, serviced by the borrower, is new money entering the markets that expands the monetary base; this is known as the modern monetarism theory, not to be confused with supply side economics debunked trickledown theory, which is just a game to feed the power of the aristocracy.  To understand this more clearly one must also understand the governments published inflation rate; for it too is a fallacy founded to help the power of the aristocracy.

The US government reports inflation as a percentage of price level changes.  This inflation rate calculation is extremely complex and considers some very misunderstood concepts about product and service utility that raises price, then lowers the published inflation rate; in addition to other methods that skew this number. A person might ask how that could be.  Remember your wage cost of living raise is calculated based on the governments reported inflation rate.  This is the main reason wages do not keep pace with inflation.

First let’s discuss utility, and features of products and services relative to the inflation rate calculation.  Utility is the benefit a buyer receives from a new feature of a product. For example, if a TV or cell phone contains a new feature that you do, or do not use, the price goes up regardless.  Due to the utility factor, the inflation rate of the item can decrease due to the benefit the government calculates from the utility they feel the consumer derives.  This means many times the inflation rate decreases for that product because of the calculated benefit.  This is both complex and misunderstood, many people do not benefit from the utility theory if the feature does not create real productivity increases.

Next is the concept of stripping out volatile energy and food prices.  Consumer’s use energy and food daily.  This means the inflation and deflation these categories of goods produce directly impacts a family’s personal inflation rate and non-discretionary spending.  Consumers use energy and food more than any other type of product.

Next is the inclusion of items that most consumers purchase once in their lifetime, or very seldom.  A house is purchased rarely, sometimes once in a lifetime.  Cars, appliances, roofs, air-conditioning and many other items are purchased every 5-20 years.  As a result, these less frequently purchased items only affect non-discretionary prices when the purchase is made.  This is a technique that further blurs the real inflation rate increasing the power of the aristocracy.

Consequently, inflation rates result in calculations that are higher or lower than most family’s experience.  This causes inaccurate wage increases because companies normally give cost of living increased based on the consumer price index which is the inflation rate calculated. 

Normally these indexes result in lower rates of inflation than the family, or consumer experience which contributes to wages not keeping pace with real inflation.  These calculations the government publishes are not developed by political parties and bear no relationship to the parties in office.  Calculations from the government are based on governmental regulations set forth that affect these entities methodologies of calculation.  These calculations and regulations are derived from economic advisors’ discussions with legislators, cabinet leaders and agency leaders and Bureau of Economics and Labor.  Remember inflation rates can be different depending on geographic location.  Consumers should make decisions based on their own personal inflation rates to reduce financial risks to their family.  So now I ask the question who is fooling who here?

By Jeffrey Waks, Accountant and Financial Analyst

January 14, 2020

What we are seeing in the stock market is an unhinging from the Federal Reserve QE (Quantitative Easing Policy); where the rise in equity prices since the 2009 low have been due to and dependent upon QE policy. That means much of the gains were borrowed gains from liquidity pumping to beef up reserves in the financial system. Now we are faced with rising interest rates at a time I do not understand why (at Fed level), divergence from Bond Market by and large. This policy of QE had to be reversed at some point. Consequently, the market must find its’ new fair value given the fact that the Fed will no longer support equity prices.

Once the market finds fair value it will behave with less volatility moving forward, with low single digit returns for some medium term time frame. It is anyone’s guess what fair value is and when the markets will find that because the Fed created a monster in making US equity markets dependent upon its’ policy. However it had no choice; I would not want to be the Fed Chairman (dam do dam don’t position). This has also happened in Europe but at a lagging pace. Myself, I sold out of the market in the spring of 2015 at the highs and have never regretted doing so. My exposure to the equity markets is very minimal at this point in time.

People may have heard of Universal Basic Income (UBI). The concept of UBI is not new and dates back to the dawn of time. Predicated on the idea that human rights are rights of all humans’ concepts and theories as outlined by governments throughout history. In the United States this concept is already used in one of the most conservative states in the union: Alaska. In Alaska all citizens that earn wages receive a dividend derived from oil revenues from the state of Alaska. In addition, Switzerland has recently voted against UBI in 2016 for it citizens. However, note it is coming, cannot be stopped, and a natural course of evolution in an economy that has progressed beyond the technology and information age.

Please let me state I am neither for, nor against the idea of Universal Basic Income, here in after referred to as UBI. In the future, perhaps within the next 25 to 75 years people in many societies will suffer from too much leisure time on their hands. This time will be a result of hyper economies of scale due to mechanization and technology. As a result, there will be fewer and fewer jobs; of course that is the purpose of mechanization and technology which is to replace labor, gain economies of scale and bring the cost of everything down. The idea of oversupply of everything has always been a true. All humans born and live have the same rights to human rights. Consequent, as economic theory and human rights theory goes the rights of humans are human rights. Next the theory states that all citizens of a society should benefit from a societies natural resources. Due to high unemployment UBI will have to be implemented in order to provide a living income in order to afford the basic necessities in life. All other income beyond UBI will be because people strive to have more. This is not a fairy tale; just the reality of the patterns of mechanization and technology.
As a business person I see great opportunity in this UBI concept and style of running a society. Many people will be taken back by this. However, no conclusion should be drawn from this because government tax revenue will ultimately follow the patterns of national income for a society in the long run; for an agreed upon level of service society deems proper provided by its government. Due to mechanization corporations will see increased profits, governments increased tax revenue, consumers lower prices, consumers less jobs, governments less revenue from consumers having less jobs and more time. This is the vicious cycle we have been in since about 1995. The secularity of this situation will take time to play out. The trends are obviously in front of all of us, the opportunities are also in front of us. The key component in thriving in this trend and or outcome will ultimately be an individual’s attitude. Presently we are seeing a lot of anger, and anti-establishment behavior and psychology in the market place. This psychological turmoil and confusion is due to uncertainty, and a lack of understanding what is happening. Over time this will iron itself out. Your personal outcome will be based on your understanding and willingness to adapt. UBI is happening right under your feet as we speak, you cannot stop it unless you cease to live.

The US government reports inflation as a percentage of price level changes. This inflation rate calculation is extremely complex, and takes into account some very misunderstood concepts about product and service utility that actually raises price, but lowers the published inflation rate. In addition to other methods that skew this number. A person might ask how that could be. Remember your wage cost of living raise is calculated based on the governments reported inflation rate. This is the main reason wages do not keep pace with inflation.

First let’s discuss utility, and features of products and services relative to the inflation rate calculation. Utility is the benefit a buyer receives from a new feature of a product. For example, if a TV or cell phone contains a new feature that you do, or do not use, the price goes up regardless. Due to the utility factor, the inflation rate of the item can decrease due to the benefit the government calculates from the utility/feature they feel the consumer derives. This means many times the inflation rate decreases for that product because of the calculated benefit. This is both complex and misunderstood.

Next is the concept of stripping out volatile energy and food prices. Consumer’s use energy and food daily. This means the inflation/deflation these categories of goods produce directly impacts a family’s personal inflation rate and non-discretionary spending. Consumers use energy and food more than any other type of product.

Next is the inclusion of items that most consumers purchase once in their life time or very seldom. A house is purchased rarely, sometimes once in a life time. Cars, appliances, roofs, air-conditioning and many other items are purchased every 5-20 years. As a result, these less frequently purchased items only affect nondiscretionary prices when the purchase is made. This is a technique that further blurs the real inflation rate.

Consequently, inflation rates result in calculations that are higher or lower than most family’s experience. This causes inaccurate wage increases because companies normally give cost of living increased based on the consumer price index which is the inflation rate calculated. Normally these indexes result in lower than the family or consumer experience which contributes to wages not keeping pace with real inflation. These calculations the government publishes are not developed by political parties and bear no relationship to the parties in office. Calculations from the government are based on governmental regulations set forth that affect these entities methodologies of calculation. These calculations and regulations are derived from economic advisors discussions with legislators, cabinet leaders and agency leaders. Remember inflation rates can be different depending on geographic location. Consumers should make decisions based on their own personal inflation rates to reduce financial risks to their family.

In recent years we have seen interest rate patterns floating between negative and 0.5 percent. I do not see this changing any time soon. In the 1970’s, 80’s and ‘90’s Alvin Toffler, John Naisbit and many other noted socioeconomic trend and patter recognition authors wrote about this phenomenon we are now seeing. Further concrete articles came out in the 1990’s depicting how the “Internet of Things” would reduce inflation for the long term. However, that alone does not account for the deflationary pressures. The combination of the Internet and demographics combined have lead us to an inevitable pattern of low inflation, or deflation, and low interest rates. For this reason Governments who manage societies would be extremely smart to take advantage by investing in infrastructure, technology and education to harness the power of economies of scale. If society fails to take advantage of this financial environment, then the status of global chaos will increase from current levels.

The internet has brought about fierce competition which has limited pricing power. The commodity cycle price boom of the first decade in the 21st century has led to decreasing input costs. Demographics have led to a lack of pricing power due to a lack of demand for certain large life purchase items, such as housing, which is driven by family formation. These factors will not abate soon. In addition, over investment in many industries and asset classes in the economy have led to overcapacity, underutilization, and volatility in equity priced assets. The drive for and production of alternative fuels, and energy since the 1970’s has increased exponentially, which will eventually reduce input prices, and fixed overheads, which creates opportunities for margin expansion without increasing price. As a result, debt management is very key. However, all of this can make taking on debt less costly and reduce risk of such, if managed properly; this is also where opportunity exists.

In conclusion, this environment has confused management, and entrepreneurs, making decision making more difficult, not to mention the challenges of planning and budgeting. In order to succeed companies and governments must work together on an acceptable level of government given a capitalistic economic environment. Challenges in the legislative process have hindered this partnership between the public and private sector. The vicious decrease in inflation and deflation, hence degradation of GDP can be solved. Although we do see inflation in what I call got you industries such as Insurance. However, it will never be solved if people do not embrace the synergy required between governments and the people it serves. At the moment, it seems that there is self-defeating behaviors manifesting themselves; however these self-defeating patterns can also be methods of correction if intentions are good. It all depends on how you perceive things, perception must be coherent for there to be a positive outcome.