Power & Market

The Fed’s Triple Threat

Mainstream economists and the media have a well-known love affair with using lighthearted words to describe policy decisions and economic concepts they find difficult to explain. CNBC uses the term triple threat to describe what was revealed in the December Federal Open Market Committee (FOMC) meeting this week. The triple threat would occur if the Fed were to:

...start raising interest rates and tapering bond buying, but also being prepared to engage in a[sic] high-level conversations about reducing holdings of Treasurys[sic] and mortgage-backed securities.

The mere mention of reducing the balance sheet should be enough to bring about this triple threat. But the world has been accustomed to easy money policies for a long time. The very conversation over reducing the Fed’s balance sheet could be enough to spook investors.

In another article on Friday, CNBC said it plainly:

It appears that the easy money train is going to come to a screeching halt this year.

The author still manages to see some light at the end of this tunnel, believing “the economy is strong,” and that Main Street (the real economy) will fare far better than Wall Street. He goes on to state:

If history is any guide — and it’s a very rough guide for our current circumstances — tighter monetary policies, especially when they are likely to be synchronized in much of the Western world, are likely to bring about that long-awaited 20% correction on Wall Street and in other financial markets around the globe. They may even bring full-fledged bear markets.

While Fed tightening could very well bring a correction, there is a disconnect between the real economy and the stock market. If the last two years are any guide, consider the increase in the cost of living, shortages of labor, goods and services, and overall lack of optimism, in the face of a perpetually increasing stock market. It’s clear most middle class Americans understand the disconnect between Main Street and Wall Street.

CNBC inadvertently raises an interesting question: is it possible Main Street could fare better than Wall Street if the Fed ultimately acts on its triple threat to raise rates, stopping new asset purchases then ultimately shrinking the balance sheet?

It’s difficult to fathom a future where the Fed exists and the average person fares better than both those on Wall Street or those closely connected to the Fed.

Whether it’s an increase in the Consumer Price Index (CPI) or in interest rates, the most vulnerable are invariably impacted at a greater proportion than the wealthy. Not everyone on Main Street, for example, can take advantage of low interest rates to invest in businesses or speculate on margin in their brokerage account. The increase in assets, such as homes, can hardly be a blessing for those who now must carry higher debt burdens at greater rates.

Should the stock market turn into a bear market, high net worth individuals would be best insulated from this as they are not normally reliant upon pension income nor social security. The wealthiest of society normally have brokers, money managers, access to better information and a wide diversification of assets. Many may find ways to even benefit from a stock market crash.

Not that the Fed should look to save Wall Street or Main Street. But it’s best to understand that a central bank does not serve the economy at large. It’s not a question regarding which pace or by how much the Fed should change rates or the balance sheet; rather, it’s the very existence of an entity having these abilities being the cause of our economic problems in the first place. No matter which way rates go and no matter the direction the balance sheet turns, and even if the triple threat of 2022 comes to fruition, Main Street will continue suffering due to policy interventions of the Federal Reserve.

Note: The views expressed on Mises.org are not necessarily those of the Mises Institute.
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