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The Free Market is Dead
Adam Parsons


Unfettered markets have not been a reality in the past century. Or two centuries. Or even longer. We can go all the way back to the Panic of 1792 to see the US government helping out when things got really bad.

  • Federal and local minimum wages
  • Rent controls in certain cities
  • The WPA, created under the New Deal
  • Propping up the dairy industry by buying cheese
  • Saving banks during the S&L Crisis
  • Bailouts during the Great Recession

But there has always been restraint from the regulators, with the goal to minimize the solution necessary to prevent catastrophe. Unfortunately, the Federal Reserve has now gone stark raving mad with printing money, and the stock market has completely broken its tether to the economy at large.

Before we get into the current predicament, let’s review how we got here.

A History of Catastrophe

Prior to the Great Recession, the Federal Reserve’s biggest tool was manipulating the Federal Funds Rate, which is the interest rate for overnight transactions between banks. When a crisis hits, cash freezes up. The Fed drops the rate, allowing those in need of cash to borrow it at a lower interest rate, freeing up liquidity.

  • Recession? Drop the interest rate.
  • Dotcom crash? Drop the interest rate.
  • 9/11? Drop the interest rate.

You get the idea.

This has worked pretty well since the 1950’s. The rate slowly crept up from near-zero in the post-World War II booming economy to almost 20% in the early 80’s. Over the past 40 years, it has steadily decreased down to the near-zero level again.

The Fed didn’t step in to save individual companies that screw up. They just managed the interest rate.

The problem with this low level is that there is nowhere else to go if we run into another crisis (negative interest rates notwithstanding). And that’s just what happened during the Great Recession.

The Great Recession

When the economy started faltering in 2007, the Fed started reducing its interest rate from just above 5% down to 2%. When things really started falling apart, they instituted the Zero Interest Rate Policy (ZIRP) and dropped the rate to almost nothing.

The recession was so bad and the financial problems so toxic, that low interest rates weren’t going to cut it. What happened next goes by many names, but in essence the Fed just started printing money to buy up mortgages and anything else that seemed to “toxic” for other banks to hold onto.

Four rounds of quantitative easing (QE) later, and the Federal Reserve had grown its balance sheet (i.e. printed money) by over $3 trillion by the end of 2015. For next three years, the Fed started increasing the interest rate incrementally, which was followed by its attempt to sell off some of its assets.

The result of QE is that the Fed effectively saved individual companies from going under, negating the overarching principles of the free market. There are arguments both for and against this action, but regardless, it was done.

The Fed saved the day. And it set a broad precedent.

Pandemic Response

The COVID-19 pandemic, however preventable by government agencies, was completely unforeseen by financial markets. That being said, the recovery from the Great Recession was now in its 11th year, so companies should have been ready for the inevitable downturn that was coming.

The US completely flubbed the pandemic response, putting markets in a tailspin and obliterating market gains from the past decade. But once again, the Fed was there to save the day.

Just like last time, ZIRP was instituted and talk of asset purchases was everywhere. Over the course of March and April, the Federal Reserve rolled multiple programs to loan money or buy assets.

Yahoo has a great primer on the slew of actions the Fed has taken.

Since the beginning of March, the Fed has swiftly slashed rates to zero, launched an aggressive quantitative easing program, and unleashed an alphabet soup of liquidity facilities to support the flow of credit in several markets.

In total, Fed watchers have referred to the central bank’s measures as “bazookas,” even “going nuclear.”

The Fed is notably getting creative with its tools, dispelling any concern that the central bank was beholden to its 2008 playbook. For the first time, the Fed is tackling financing pressures in the municipal debt market (through the MMLF, CPFF, and MLF) and the corporate debt market (through the PMCCF, SMCCF, CPFF).

We’ll get to the “alphabet soup” in a minute, but the overarching point is that the Federal Reserve is the 800-pound gorilla in the monetary room, out-punching even the executive and legislative branches of the federal government.

Take a look at these numbers provided by the COVID Money Tracker, showing how much money has been allowed to be spent by each government section.

  • Executive branch: $380 billion
  • Congress: $3.6 trillion
  • Federal Reserve: $5.5 trillion

From the detailed explanations deep into the Money Tracker, we get this quote.

In total, the Federal Reserve balance sheet has expanded by $2.8 trillion since February 26 — from $4.2 trillion to $7 trillion — and the balance sheet is likely to expand more over the course of the crisis. (emphasis added)

This expansion is on top of the already historic explosion of the balance sheet from about $800 billion in 2008.

The tail is truly wagging the dog.

How the Fed is Propping up the Market

Here is a brief summary of the technical processes that have allowed the Federal Reserve to prop up the market. For a thorough analysis of the actions and programs that the Federal Reserve has implemented, check out the Money Tracker mentioned above and this article from Yahoo Finance.

Direct Actions

Here is a list of the programs that the Federal Reserve has instituted over the past several months.

  • Slashing interest rates (completely destroying savers)
  • Quantitative easing (i.e. printing money)
  • Repurchase agreements (calming collateralized overnight lendingproblems)
  • US dollar swaps (making sure foreign countries can get US dollars)
  • Opened up the discount window (ensuring “lender of last resort” status)
  • Repealed capital reserve requirements for banks (basically overriding Dodd-Frank)
  • Updated stress tests (capping dividends and restricting stock buybacks)

Alphabet Soup

And here is the list of “facilities” to ensure liquidity in the economy.

  • CPFF, Commercial Paper Funding Facility (supporting short-term financing for corporations)
  • PDCF, Primary Dealer Credit Facility (for the middlemen who sell government loans to the public)
  • MMLF, Money Market Mutual Fund Liquidity Facility (backstopping money market funds)
  • PMCCF, Primary Market Corporate Credit Facility (directly buying investment grade bonds)
  • SMCCF, Secondary Market Corporate Credit Facility (buying mostly investment grade bonds and some “high-yield”, aka junk, bonds on the open market)
  • TALF, Term Asset-Backed Securities Loan Facility (buying debt-based products, like mortgage backed securities)
  • FIMA, Foreign and International Monetary Authority (allows US dollar swaps with financial institutions abroad, beyond central banks)
  • PPPLF, Paycheck Protection Program Liquidity Facility (backstopping the Paycheck Protection Program loans that banks are lending to companies)
  • MSLNF, Main Street New Loan Facility (additional loan program for companies, beyond PPP)
  • MSPLF, Main Street Priority Loan Facility (basically, the MSLNF for riskier, less profitable business)
  • MSELF, Main Street Expanded Loan Facility (bigger version of MSLNF, with debt restructuring allowed)
  • NONLF, Nonprofit Organization New Loan Facility (a Main Street program for nonprofits)
  • NOELF, Nonprofit Organization Expanded Loan Facility (bigger version of NONLF, with debt restructuring allowed)
  • MLF, Municipal Liquidity Facility (loans to states and municipalities)

So far, 14 facilities that have been set up to loan to just about everyone and their brother. But don’t be fooled. The Fed is probably not done yet. There has even been talk of buying individual stocks for companies that are deemed “too big to fail” (remember that term?).

This would basically be the Federal Reserve picking winners and losers on the open market.

Capitalism, we barely knew ye.

What Does It All Mean?

For the average investor, this may mean very little at first. But scratch a little deeper, and you’ll find that it might actually impact your entire financial world, starting with your investment portfolio.

Of course, there are massive risks in a stock market supported by QE infinity. It drives illusionary valuations — Tesla being just the most obvious. Where zombie companies are thriving because of limitless free debt, the basic functioning and discipline of markets is in trouble.

In short, pricing fundamentals are completely out of whackStandard valuation methods mean nothing with the Fed in the driver’s seat.

The Fed’s intervention is also going to have an impact on your everyday finances, including incomes and government safety nets.

The state of affairs: The unemployed and poor are dependent on government handouts, the middle class is sweating staring at permanent job losses mounting as the top 1% and billionaire stock owner class is subsidized by the Fed as stocks keeps rising despite the worst economic backdrop in decades.

All the while the Fed is steadfastly denying against all evidence that it is contributing to ever expanding wealth inequality even though that is precisely what it is doing.

Just remember, the stock market is not the economy. Don’t believe the hype, get your financial house in order, and prepare for the next downturn.

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Husband | Father | Engineer | Writer — Focused on how to get a little better every day.

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