In one of my academic interludes that each have a strong correlation with some feeling of angst, I took a degree in applied economics and was required to write a paper on macroeconomics. The year was 1983 and we had just gone through a period of very high inflation and much higher interest rates. Thinking myself a financial gnome based on my reading of a book about how to make millions by being a non-thinking idiot, I had bought a highly leveraged apartment complex. The plan was to create a strata corporation, sell enough units to pay off the mortgage, and be left with a ski condo and some monthly income. Timing is everything. By the time the strata corporation was completed, the mortgage interest rate was 22 percent and the market for the units disappeared. It was devastating and I was almost wiped out.
When the need for topic in economics came up I thought it might be interesting to find out what had caused me such pain. How did those high rates come about and why were they visited upon me? I decided to write a paper on whether fiddling with Keynsean dials could reduce or eliminate recessions. Spoiler alert! The dials don’t work. I know this because Robert Lucas won the Nobel Prize in economics for his theory of rational expectations which, as I understand it, states that economics is driven as much by psychology as deficit financing, tax rates or bond interest rates. Economics is based on aggregate decisions which are psychologically determined. If you want to change the economics you have to change the psychology. Therefore, Paul Volker needed to shock me into believing that inflation was no longer a thing. And he did that by destroying my dreams of early financial success through high interest rates. Congratulations Mr. Volker. It worked.
I write, not to discuss the virtues of Keynes versus classical or neo-classical economics, but only point out that today we are faced with similar stagflationary pressures in our economy. It gets a bit disorienting when interest and inflation rates spiral up while stock and bond indices plummet down. What in the world is going on? One place to start in understanding today’s economy is with the Federal Reserve Board. Much of what follows is inspired by “The Lords of Easy Money” by finance writer Christopher Leonard. Buy the book and read it or get it at the library like I did.
It is commonly stated that, in investing your money, “don’t fight the Fed”. But who is the Fed and why should they be bereft of my pugilistic pokes? We mostly know the Fed through its more recent Chairs; Alan Greenspan, Ben Bernanke, Janet Yellin and Jay Powell.
Tom Hoenig President of Federal Reserve Bank of Kansas City
FOMC
Reserve banks have inside track based on New York City Federal Reserve Bank
Buying and selling securities in carefully calibrated quantities to