Real Monsters

Monsters are real, and they are us.  I know Halloween is a distant memory already, and adults know the real monsters are misshapen and malformed people.  But central banks have created a monster, or perhaps a better way to say it would be they brought out the monster in all of us.

When the global financial crisis hit, the central banks were asked to fulfill their role as buyer of last resort and get the gears of the debt markets moving again.  We’ll never know what might have happened had they decided not to do what they did, but it’s safe to say things likely would have gotten a lot worse than they did and got better faster than they would have otherwise.

Most central bankers are economists, and most economists operate on theory.  Theoretically speaking, the monetary stimulus they provided would, by course of nature, go to investments that engender greater long-term growth.  Things like technology to improve work force productivity and efficiency, and research and development toward new technological breakthroughs.  Theories are great.  In theory.

In practice, they don’t always hold up.  Especially when they rely on human beings acting rationally with respect to money.

Past readers will recall me saying money is not math and math is not money. Money is emotional.  Well, this is true, but as it turns out, a more accurate way to put it would be to say that it’s chemical.

See, when we experience financial gain, it triggers the same response that things like drinking, eating, and sex do.  Our “reward system” is activated by releasing dopamine into the nucleus accumbens.  And on the other side of the deal, when we experience a financial loss, the stress hormone cortisol is released into the hypothalamus by the amygdala.

All that to say, the stimulus central banks injected in the economic bloodstream did not go toward these long-term economic growth initiatives. It was a satisfying hit of dopaminein the form of share buy backs. These are great for short-term growth, especially if you’re a CEO that receives half your annual pay in your company’s shares, but not so much for the long-term.

Because remember: when asset prices get too far ahead of real economic growth, you get bubbles. You’ve all heard the financial media say the Fed has been confounded all these years by trying to achieve “sustainable” 2% inflation, while stock and bond prices have rocketed into the stratosphere.  That’s another way to say asset prices have gotten ahead of economic growth. When that happens, we might be in store for a hefty dose of cortisol.

Jerome Powell, the Federal Reserve Chairman appointed by Donald Trump (though it’s worth noting that Powell’s nomination to the Federal Reserve Board of Governors by President Barack Obama was the first time that a president nominated a member of the opposition party for such a position since 1988), is not an economist like Janet Yellen, Ben Bernanke, or Alan Greenspan before him.  He’s a market guy. He studied law and has worked as an investment banker or in Government roles throughout his career. In other words, he’s seen how the investment banking world works in practical terms.

Powell’s language and actions so far indicate that he, and those on the board who are voting with him, recognize asset prices have run away from economic growth and that their policy implementation has (my words), created a monster. The cash they handed to the banks in exchange for all their bad mortgage backed securities were the corpse of body parts sewn together, and the four and a half trillion dollars they created out of thin air and dumped into the bond market was the lightning bolt through the neck electrodes that brought it to life.

Now Frankenstein, that’s Frankenstein (I can’t even type that without laughing hysterically), wants to kill his monster. Again.

Alan Greenspan admitted his error when he said he didn’t think banks would take risks that would jeopardize their own livelihood. And I think there will be a panel of Senators wagging their fingers and grilling Ben Bernanke and/or Janet Yellen at some point in the future too.

But in the meantime, acting Fed Chairman Jerome Powell and the current board are talking and acting a lot like they know they’ve revived the monster. In us.