The Money Pump Is Getting a Workout

By Andrew Gordon

The Fed can’t take its hands off the money pump.  It’s pouring hundreds of billions of free money into the economy.  Wall Street loves it.  Of course they would.  The Fed is showering them with free money.  What’s not to love?

Free money?  Your heard me.  Core inflation is running at 4.1 percent (it excludes food and energy prices).  The real rate of inflation?  Let’s just say it’s much higher.  I’d put it at about twice that rate.  After the latest round of rate cuts, the Fed funds rate is now 2.25 percent.  When you count for inflation, the real interest rate is now negative.

The only thing worse than cheap money is free money.  What will free money do to the economy?  It flings the gates wide open to inflation.  It keeps long-term interest rates high.  Since credit cards and mortgage payments are tied to long-term rates, consumers hate that.

But worst of all, it keeps Wall Street investment houses and hedge funds awash in cash.  In their high-stakes quest for higher and higher returns, they’ve generated tens of trillions of dollars worth of highly illiquid assets.  Now the Fed is letting them off the hook.  Cheaper money is feeding their addiction of squeezing higher returns from exotic and risky derivatives that nobody completely understands.

Look, I’m fully aware that the consequences of not doing this probably would have meant a financial meltdown.  The effects would have been felt far and wide by everybody.  The Fed is caught between a rock and a hard place.  But it should still be asked, will saving the patient – our banks – ultimately destroy our economy?

It very well could, unless the Fed places restrictions and rules on what investment houses can do with all this free money.  Letting these brokerages feed at the discount window trough gives the Fed the right to demand accountability in return.  An addict only looks for his next fix.  The Fed needs to fix that.