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23 April 2013, Gateway House

U.S. economy: The have-nots said so

Following the 2008 mortgage crash, the U.S. Federal Reserve Board implemented a quantitative easing policy – to stabilise the banks, and rejuvenate the economic environment. Although this strategy has brought some respite, it has done so without creating many new jobs for Americans.

Editorial Advisor, Gateway House

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When America’s Occupy protestors moved into a New York City park in the fall of 2011, they had two missions:  One was to call attention to a widening gap between haves and have-nots in America, resulting in the famous refrain:  “They are the 1%. We are the 99%.” The second was to have the leading bankers it believed were responsible for recklessly creating the 2008 mortgage crash that engulfed the world, be charged for crimes and be tried by a jury.

The second goal is all but lost. No prominent Wall Streeter has been charged with anything and no one has been forced to give back the multi-million dollar severance payments they collected as they left their ruined banks.

Occupy is also a pale shadow of itself. Its members were evicted from its tent city with a dawn police sweep of Zuccotti Park in New York last November 15, and Occupy camps have been shut down in all other major American cities and mostly across the world. In New York, some Occupy activists are working to help the homeless in New York.

But in a strange way, the Occupy issue of inequality has moved from a youth movement to academia to the highest level of concern in Washington. One reason is that after spending an unprecedented $3 trillion to bail out the banks and restart the U.S. economy with a money-printing spree, government officials are facing the reality that while their actions made the 1% richer, the 99% is struggling  as never before.

There are two reasons for this. One is that after an $800 billion bailout package was used to stabilize the banks, and after the U.S. Federal Reserve Board (the Fed) cut borrowing costs for the banks to zero, there was shallow gain for the broader economy. With unemployment stuck at near 10%, the Fed started pouring money into the financial system by buying up mortgage backed bonds and Treasury securities from America’s banks. The amounts poured out now total today’s level of $3 trillion. That makes the Fed the world’s largest investor and the largest holder of mortgages. The Fed holds these reserves created for the banks and even pays the banks interest on the money.

This strategy saw some success. Unemployment is down from 10% to 7.6%, but the Fed says it needs to keep pumping the economy until unemployment falls to 6.5% or inflation goes above 2.5%. To get to that goal, it says it will keep Federal funds, the nation’s lowest interest rate, at near zero.

The big success is the U.S. stock market. The S&P 500 is now back at levels seen before the crash. In effect, investors who didn’t need to sell out or were able to buy low after the crash have seen their wealth restored. In classical economics, this so called “wealth effect” should make these well-off individuals more prone to want to spend, invest and most importantly, create jobs.

But so far that hasn’t happened, and now at the highest ranks of Washington, Federal Reserve officials, present and past, are speaking out. To avoid charges of “class warfare” no one is blaming the 1% for reaping the highest wealth gains since the recession. It was after all the Fed that created this windfall by driving billions into the stock market and cutting interest rates on savings to near zero. Global investors added fuel, moving funds to the U.S. in a flight to safety.

With investor wealth restored, Fed officials are now much more explicit about how the middle class and the poor have been damaged. Falling house prices “struck a devastating blow” to families because they were using the house gains to maintain a middle class standard of living before the crash, Fed Governor Sarah Bloom Raskin told participants at the influential annual Hyman Minsky conference on the State of the U.S. and World Economies in New York on April 15. Rather than being reckless, which is what bankers stated, she said the borrowing by homeowners may have been the result of “rising inequality and stagnating wages” before the crash, leading families to “pin their hopes for economic advancement on rising home values.”

As evidence, she pointed out that 2/3 of job losses after the crash were in middle class manufacturing, skilled construction and office jobs and that only one-fourth of those had come back. Economist Steve Ferrazi of The Levy Institute backed up the point with a new study which showed that 95% of Americans spent more from less income after the crash to try and maintain their living standard but continued to lose ground because their house wasn’t a cash box anymore.

Adding to the concern Minneapolis Federal Reserve Bank President Narayana Kocherlakota said the economy is so weak, loose monetary policy is needed for five years or more to fight unemployment. He dismissed inflation as a risk. Interest rates will need to be low “for quite a considerable amount of time” he said. If correct, that outlook means the U.S. will suffer slow growth for some time, likely stalling global growth as well.

Federal Reserve Bank of Boston President Eric Rosengren said broker dealers and money market funds should be more tightly regulated and another Fed Governer Mary John Miller vowed no large bank would ever be bailed out again, despite skeptical looks from her audience at the conference. Former Fed Vice Chairman Alan Blinder said in hindsight it’s clear there was “fraud” on Wall Street.

Part of this is politics. The Fed took extreme heat during last year’s Presidential election for ignoring signs of an impending crash, the bailouts and excessive catering to bankers over the public. On Wall Street, Fed critics say the central bank has catered so much to the Treasury by buying its bonds that it’s losing its vaunted independence. So if the economy does not create more jobs, a growing public backlash from the left and right could make the Fed a target for regulation and reform by lawmakers during next year’s Congressional elections.

In other words, classic central banking is under fire. While it doesn’t call it that, in past recessions the Fed has relied on “trickle down” spending by the affluent and business to restart the economy and raise wages for the middle and lower class. That hasn’t happened yet and patience is wearing thin. Adding to the anxiety is that even as business earnings and stock market gains show strength, jobs from that spending are going offshore mostly to low wage developing nations like India and China. As  Fed officials and economists were debating the weak recovery in New York,  the Wall Street Journal reported on April 19 that U.S. multinationals did almost all of their hiring abroad in 2011. No one knows what more current numbers might show, but a recent outlay of HI-B visas for skilled temporary employment in the U.S went almost entirely to Indian nationals.

The bottom line: the fed policy of quantitative easing has made those riding up the stock market recovery more affluent without creating the needed new jobs for Americans. Fed critics are now asking if the nation would have been better off if Washington had spent some of the trillions directly instead of boosting reserves in the private banks. The Occupy people identified the banks as the problem for recovery and a cause of inequality 18 months ago. If they were still camped out in New York, they’d likely say: “We told you so.”

Bob Dowling is the Editorial Advisor at Gateway House: Indian Council on Global Relations.

This article was exclusively written for Gateway House: Indian Council on Global Relations. You can read more exclusive content here.

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