Why We Should Fear Easy Money

Cutting interest rates now could set the stage for a collapse in the financial markets.

To widespread applause in the markets and the news media, from conservatives and liberals alike, the Federal Reserve appears poised to cut interest rates for the first time since the global financial crisis a decade ago. Adjusted for inflation, the Fed’s benchmark rate is now just half a percent and the cost of borrowing has rarely been closer to free, but the clamor for more easy money keeps growing.

Everyone wants the recovery to last and more easy money seems like the obvious way to achieve that goal. With trade wars threatening the global economy, Federal Reserve officials say rate cuts are needed to keep the slowdown from spilling into the United States, and to prevent doggedly low inflation from sliding into outright deflation.

Few words are more dreaded among economists than “deflation.” For centuries, deflation was a common and mostly benign phenomenon, with prices falling because of technological innovations that lowered the cost of producing and distributing goods. But the widespread deflation of the 1930s and the more recent experience of Japan have given the word a uniquely bad name.

After Japan’s housing and stock market bubbles burst in the early 1990s, demand fell and prices started to decline, as heavily indebted consumers began to delay purchases of everything from TV sets to cars, waiting for prices to fall further. The economy slowed to a crawl. Hoping to jar consumers into spending again, the central bank pumped money into the economy, but to no avail. Critics said Japan took action too gradually, and so its economy remained stuck in a deflationary trap for years.

Yet, in this expansion, the United States economy has grown at half the pace of the postwar recoveries. Inflation has failed to rise to the Fed’s target of a sustained 2 percent. Meanwhile, every new hint of easy money inspires fresh optimism in the financial markets, which have swollen to three times the size of the real economy.

In this environment, cutting rates could hasten exactly the outcome that the Fed is trying to avoid. By further driving up the prices of stocks, bonds and real estate, and encouraging risky borrowing, more easy money could set the stage for a collapse in the financial markets. And that could be followed by an economic downturn and falling prices — much as in Japan in the 1990s. The more expensive these financial assets become, the more precarious the situation, and the more difficult it will be to defuse without setting off a downturn.

The key lesson from Japan was that central banks can print all the money they want, but can’t dictate where it will go. Easy credit could not force over-indebted Japanese consumers to borrow and spend, and much of it ended up going to wastefinancing “bridges to nowhere” and the rise of debt-laden “zombie companies that still weigh on the economy.

Today, politicians on the right and left have come to embrace easy money, each camp for its own reasons, both ignoring the risks. President Trump has been pushing the Fed for a large rate cut to help him bring back the postwar miracle growth rates of 3 percent to 4 percent.

At the same time, liberals like Bernie Sanders and Alexandria Ocasio-Cortez are turning to unconventional easy money theories as a way to pay for ambitious social programs. But they might want to take a closer look at who has benefited most after a decade of easy money: the wealthy, monopolies, corporate debtors. Not exactly liberal causes.

By fueling a record bull run in the financial markets, easy money is increasing inequality, since the wealthy own the bulk of stocks and bonds. Research also shows that very low interest rates have helped large corporations increase their dominance across United States industries, squeezing out small companies and start-ups. Once seen as a threat only in Japan, zombie firms — which don’t earn enough profit to cover their interest payments — have been rising in the United States, where they account for one in six publicly traded companies.

All these creatures of easy credit erode the economy’s long-term growth potential by undermining productivity, and raise the risk of a global recession emanating from debt-soaked financial and housing markets. A 2015 study of 17 major economies showed that before World War II, about one in four recessions followed a collapse in stock or home prices (or both). Since the war, that number has jumped to roughly two out of three, including the economic meltdowns in Japan after 1990, Asia after 1998 and the world after 2008.

Recessions tend to be longer and deeper when the preceding boom was fueled by borrowing, because after the boom goes bust, flattened debtors struggle for years to dig out from under their loans. And lately, easy money has been enabling debt binges all over the world, particularly in corporate sectors.

As the Fed prepares to announce a decision this week, growing bipartisan support for a rate cut is fraught with irony. Slashing rates to avoid deflation made sense in the crisis atmosphere of 2008, and cutting again may seem like a logical response to weakening global growth now. But with the price of borrowing already so low, more easy money will raise a more serious threat.

By further lifting stock and bond prices and encouraging people to take on more debt, lowering rates could set the stage for the kind of debt-fueled market collapse that has preceded the economic downturns of recent decades. Our economy is hooked on easy money — and it is a dangerous addiction.

Our politics fails us, so here’s what to do

We can re-engineer the system to create a new political centre, says Charles Wheelan of Dartmouth College and a former candidate for Congress

Strikingly, data from Beyond Conflict, an NGO that promotes reconciliation in conflict areas, show that Americans feel “dehumanised” by the opposing party—a sentiment often associated with political violence—at roughly the same level as Israelis and Palestinians viewed each other during the Gaza War in 2014.

Moreover democracy is being asked to deal with policy challenges that have longer time horizons and more complexity than in the past. So the urgency to fix problems can seem less apparent: it is more like termites in the basement than a collapsing roof. Complexity also opens up a space for demagoguery. Beating back Hitler was no easy feat—but the need to do so was easier to explain than why universal health care requires a health insurance mandate.

Many voters are convinced that politicians are selling them out. They have a point. When I ran for Congress in 2009 as a Democratic candidate in Illinois, I went hat-in-hand to rich donors, as all candidates must. After one meeting with a group of private-equity types, one of them pulled me aside and asked how I felt about the “taxation of carried interest”—an arcane policy that lets major investors pay less tax on their earnings.

I told the fellow that income was income, and that “carried interest” ought to be taxed the same way as everyone else’s paycheck, and not as capital gains.

“That’s too bad,” he said, and walked away. He did not write me a cheque. I lost the race.

.. It did not matter that I was taught by economists at the University of Chicago and took classes from three Nobel Prize winners. Political issues devolve into protecting one’s niche perks. In this case, some of the wealthiest people in the country cared about one issue: whether they could pay a lower tax rate than the people who make their lattes and mow their lawns. More cunning candidates tolerate this to get into office.

The constant need for fundraising also drives partisanship. Emails with subject-lines like “Help me strike a compromise to bring down the deficit” are certain to remain unopened. But drop into an inbox “The Republicans will end Medicare” or “The Democrats are killing babies” and the contributions will flow, helping to make the partisanship ever more toxic.

In this environment, the biggest threat to a candidate is not from an opposition party with a different set of policies but from the extremist end of his or her own party. Hence the rise of the word “primary” as a verb, as in “The Democrats may primary him.” The optimal strategy is ideological purity, even if it means getting nothing done as a legislator.

Now for the really dangerous part: changing demographics have made the electoral college and the Senate increasingly out of sync, as population grows in blue states and wanes in red ones. By 2040 it is possible that roughly 70% of Senate seats will be controlled by 30% of the population. If we are looking for something that can ignite the current partisan tinder, this is it: a prolonged period in which the political will of the majority is thwarted by a minority opposition.

There are lots of ways to do this but the two boldest ideas are to create an independent group of centrist legislators to act as the “king makers” to pass legislation, and to implement something called “ranked-choice” voting that would make it harder for candidates on the political extremes to win election. Consider both in turn.

First, the legislators. It is easy to imagine that a bipartisan group of prominent politicians could step aside from their parties, band together, and create a new movement of the centre. I called this the “fulcrum strategy” in my book “The Centrist Manifesto” in 2013, and it is similar to the recent moves by Labour MPs in Britain, now joined by a few Conservatives.

Just a small handful of defections would go a long way to changing America’s political dynamic. It could provide a pragmatic center of gravity, restore a shared political narrative, rebuild the connective tissue between the parties, and place a healthy check on the Trump administration and whoever comes after, in a way that is less partisan than the Democrats today.

Could it happen? Absolutely. Here is what Jeff Flake, a former Republican senator from Arizona said at a conference this month at Harvard’s Kennedy School of Government: “With three or four Rs and three or four Dems, if they come together now, or just about any time—the Senate rarely has more than a three-, four-, five- or six-person majority on either side—you could really change that place. You could create a completely different power structure. And that would be very healthy right now.”

Joel Searby, a political consultant working to rebuild the centre ground of American politics, says there is “high interest” in doing something like this. Mr Searby has met with chiefs of staff for a handful of senators, both Republicans and Democrats, to pitch the fulcrum idea. “They’re taking meetings with me in their Senate offices, and they know exactly what I’m there to talk about,” he says.

Moreover the Senate just got a new member who is less beholden to the political establishment than most: Mitt Romney, the Republican presidential candidate in 2012 who is also a former governor of Massachusetts, one of the most liberal states in the country. He has been a critic of the president from his own party. Will Mr Romney be the guy to change American politics forever? Or could it be the senator for Maine, Susan Collins? Or West Virginia’s Joe Manchin, a Democrat in a red state? It will only take a few.

The same fulcrum strategy could work at the state level. For all the talk of “red” and “blue” states, the fact is that many state legislatures are as narrowly divided as the Senate, meaning that a mere handful of centrists could band together to restore sanity.

In fact, in Alaska this just happened. After the mid-term election in 2018, a single Republican lawmaker refused to be the 21st vote that would give his party control of the 40-person legislature. Instead, he negotiated a governing coalition of eight Republicans, 15 Democrats and two independents. Committee chairs will be shared across parties and there is an independent speaker of the house.

The public seems receptive to this. After all, the two most popular governors are Republicans in blue states: Larry Hogan in Maryland and Charlie Baker in Massachusetts. This suggests that there are politicians able to cross the partisan divide and that voters will embrace them.

Politics needs to evolve with the times like everything else. The Republican Party emerged to deal with the thorny issue of slavery. Emmanuel Macron built a new party in France and captured a parliamentary majority. If economists can count almost 5,000 breakfast cereals in America, why should its citizens settle for just two political parties?

Precedents exist, such as Israel’s centrist Yesh Atid party that emerged in 2012. There are also examples of tiny factions that exert outsized influence, such as small, religious parties in Israel and Japan. A centrist faction can play the same role in America.

Then there is the issue of voting. There is a powerful change that would be a force for moderation: replace the primary system with a “top four, ranked choice” voting system. Yes, it needs a better name. But it’s the best way to hold elections with multiple candidates.

It works like this: In the first round of voting, the four top vote-getters advance. In the second round, voters rank those four candidates.

If no candidate wins an outright majority, then the candidate with the fewest votes is eliminated. Those who voted for that candidate get their second choice instead. And this process of counting the next-best-candidate continues until one person gets a majority.

This system has three huge advantages. First, it minimises partisanship. Candidates would no longer compete to attract support from the most ideological members of their party but from all voters, which would have a moderating influence.

Second, this would create space for new political competition since independents and third parties would no longer present a “spoiler problem”. For example, Ralph Nader would have been eliminated in 2000 after the first round; most of his votes would probably have gone to Al Gore, who then would have become president.

Third, ranked-choice voting also creates an incentive for candidates to behave more civilly because it is important to be many voters’ “second choice”. Maligning other candidates—and all the other nasty tactics of modern elections—would carry a higher price.

.. The political landscape could change quickly. Reforms like the “fulcrum strategy” and “ranked voting” will make it easier for independents and members of new parties to get elected. Public support for both parties is in secular decline. And much of the partisanship is negative partisanship, meaning that party identification is driven mostly by loathing for the other side. A solid majority of Americans say that the country needs a third major political party.

.. Indeed, the data from Beyond Conflict found that voters believe that members of the other party think worse of them than they actually do. It turns out that we have not dehumanised each other to the same degree as the Palestinians and the Israelis; it only feels that way.

.. There are four faces on America’s Mount Rushmore monument: Washington, Jefferson, Lincoln, and Theodore Roosevelt. With democracy under siege, it is worth thinking about each of them.

George Washington was an independent and warned about political “factions” in his farewell address. Thomas Jefferson said the greatest evil was “a Division of the Republic into two great Parties.” Abraham Lincoln was part of the new Republican Party that arose when the two extant parties could not manage the issue of slavery. Teddy Roosevelt made a third run for president with his own “Bull Moose Party.”

What the four leaders carved in stone share is an unease with partisanship, a willingness to challenge political orthodoxy, and an unwavering belief in democracy. Those are the right principles to bear in mind as we look to strengthen the foundations of our system.

An Upset in the Making: Why Joe Crowley Never Saw Defeat Coming

He led his upstart rival, Alexandria Ocasio-Cortez, by 36 percentage points.

It was the last poll Mr. Crowley’s campaign would conduct.

Despite his many reputed strengths — his financial might as one of the top fund-raisers in Congress, his supposed stranglehold on Queens politics as the party boss, his seeming deep roots in an area he had represented for decades — Mr. Crowley was unable to prevent his stunning and thorough defeat on Tuesday night.

.. Ms. Ocasio-Cortez bested Mr. Crowley by 15 percentage points, delivering a victory expected to make her, at 28, the youngest woman ever elected to Congress.

.. in a redrawn and diversifying 14th Congressional District where the incumbent, despite two decades in Congress, had never run in a competitive primary.

.. She flipped the levers of power he was supposed to have — his status as a local party boss and his money — against him, using that as ammunition in an insurgent bid that cut down a possible successor to Nancy Pelosi and the No. 4 Democrat in the House.

.. It was demographics and generational change, insider versus outsider, traditional tactics versus modern-age digital organizing.

.. Ms. Ocasio-Cortez is a socialist

.. “It’s a wake-up for everybody,” said Michael Blake, a vice chairman of the Democratic National Committee

.. charismatic younger challenger whose politics and profile — a woman with Puerto Rican roots — matched a diverse Queens and Bronx district, where 49 percent of residents are Hispanic and fewer than one in five are white.

.. “A lot of people of color were excited about a young woman of color,” Mr. Blake said. “People say demographics are destiny and you can’t ignore that reality when looking at the numbers there.”

.. A former organizer for Bernie Sanders

.. carrying Mr. Crowley’s home borough of Queens by a larger margin than she won the Bronx.

.. She drew support for her progressive platform that included abolishing the Immigration and Customs Enforcement agency, Medicare for all and a federal jobs guarantee

.. “Her strongest support came from areas that were not predominantly Hispanic,”

.. He was remarkably little known back home, despite his many years in office, and his favorability rating was also low, according to people familiar with the findings.

.. Mr. Crowley’s family lives in the Washington area — a fact Ms. Ocasio-Cortez used as a cudgel.

.. By early June, the Crowley campaign was already on high alert. He had spent hundreds of thousands of dollars on mailers and voter outreach, but Mr. Crowley remained mired in the low 50s in the head-to-head matchup

.. His bank account showed $1 million for the race’s final sprint. But Federal Election Commission records reveal that nearly two-thirds of those funds were earmarked for the general election. He couldn’t spend it on the primary.

.. Mr. Crowley’s blitz of activity and mail — one official involved in his campaign said some voters received more than a dozen pieces of literature — had rebounded to her benefit.

.. Ms. Ocasio-Cortez released a two-minute biographical video that went viral, the latest instance of this “girl from the Bronx,” as she called herself, catching fire on social media.

Her video, and a competing three-minute clip that Mr. Crowley released days before the election, told the story of the race.

.. She rode subway trains in hers. He drove a car in his.

.. pitched himself as an ally.

.. She pitched herself as a member of the community itself.

.. His video had fewer than 90,000 views on Twitter by Primary Day. Hers had more than 500,000.

.. “We had people running this like a 1998 City Council race and not a 2018 congressional primary,”

.. They saw heavier turnout in some more gentrified pockets of the district — Sanders-type strongholds. Her social media presence was swamping them.

.. warned the Queens County Democratic leaders, including Mr. Crowley himself, that the district was shifting beneath them, ideologically and racially.