The idea of creating money out of thin air to solve economic problems is one of the oldest sophistries of all time. The creation of money has been the downfall of many a government and empire over time, from ancient Rome, medieval China, and late Renaissance France to Weimar Germany, Zimbabwe, and now Venezuela.
No matter how many times the mistake of creating money out of thin air is made, politicians and central bankers around the world never learn from their mistakes. They continue to believe that they can print prosperity. Yet all they ever accomplish is miring their people in misery.
The Federal Reserve recently announced a new direction for its monetary policy, but it really doesn’t differ that much from the old one. It intends to keep monetary policy extraordinarily loose for the next three years, which could mean bad news for many investors.
What the Fed Is Doing
The Fed’s new monetary policy consists of three primary actions.
- Allowing Inflation to Overshoot
- Keeping Interest Rates at Zero
- Monetizing Federal Debt
None of these actions are beneficial to ordinary investors. They’re intended to keep Wall Street and the financial system afloat, now that US companies have become so used to a decade of low interest rates that many companies would fail with a return to market interest rates. Unless investors recognize the threat the Fed’s actions pose to their investments, they’ll see their wealth slowly siphoned off to benefit Wall Street.
1. Allowing Inflation to Overshoot
The Fed has long had an unofficial target inflation rate of 2% per year, and has publicly stated on numerous occasions its intention to orient its monetary policy so that inflation runs at 2% per year. But for the past several years, inflation rates have largely risen at under 2% per year, at least according to government calculations.
The Fed thinks this is a bad thing, as it sees inflation that is “too low” as a sign of a weak economy. That couldn’t be any further from the truth, however, as the natural effect of increased production is for prices to drop. By trying to achieve a 2% inflation rate, the Fed is actively pursuing a policy that devalues the dollar and increases Americans’ cost of living. Even a “low” inflation rate of 2% per year means that prices double every 35 years, meaning they’ll quintuple over the lifetime of the average American.
Now the Fed has let it be known that it intends to allow inflation to run hot for the foreseeable future. It is looking for an “average” inflation rate over time of 2%. Since inflation has been less than 2% for such a long time, the Fed will likely tolerate and try to stimulate a higher inflation rate that will even further increase prices and burden American consumers.
Of course, the trillions of dollars the Fed injected into the financial system in the aftermath of the financial crisis failed to increase inflation, so why does the Fed think that new injections of liquidity in the future will spur inflation? Most likely the Fed will increase the size and scope of its future monetary injections to levels that we previously only dreamed of, creating a monetary tsunami that risks drowning the economy.
2. Keeping Interest Rates at Zero
At its most recent monetary policy meeting, Federal Reserve policymakers indicated that they expect interest rates to remain near zero until the end of 2023. Obviously things can change before then, but as the entity that sets the federal funds rate, that should be taken as an indication that Fed policymakers have no intention of raising interest rates anytime soon.
It’s frustrating to see this policy from the Fed, which created the housing bubble by keeping interest rates too low for too long, then created the current bubble by keeping interest rates too low for too long, and now intends for the third time to keep interest rates too low for too long. Will the Fed never learn from its mistakes?
The past 12 years of extraordinarily low interest rates has incentivized significant amounts of debt accumulation at all levels, from government to businesses to households. Americans are more indebted than ever, and rather than take a good hard look at the situation in order to figure out how to pay off all that debt, many people continue to take on new debt.
They’re aided and abetted in that by the Federal Reserve, which understands that rising interest rates would threaten the sustainability of companies that have based their operations on the promise of cheap money. The number of zombie companies, those who are in business merely to service the cost of the debt they have issued, is getting close to the highest level it’s ever been, close to 20%. Were interest rates to rise to market-determined levels, most of those companies would have to declare bankruptcy.
The Fed fears bankruptcy declarations because it fears a cascading series of defaults throughout the economy, with one firm’s bankruptcy forcing others out of business too. And thus it is doing everything it can to keep firms afloat, even if it means allowing firms that should be out of business to keep operating. Eventually, that decision is going to come back to bite it, as those firms will go out of business. All the Fed will have left to show for its efforts is a pile of worthless corporate debt, massive amounts of inflation, and failed businesses throughout the economy.
3. Monetizing Federal Debt
By far the largest debtor in the United States today is the federal government. With a national debt currently at $26.8 trillion and climbing, the federal government’s spending is putting drunken sailors around the world to shame. And with more coronavirus-related stimulus spending likely coming in the near future, that debt could hit $30 trillion as soon as next year.
Normally when a government spends more money than it takes in, it has to issue debt and sell it to markets in order to raise money. And if markets don’t want that debt, they’ll demand higher interest rates in order to purchase the debt.
The US government doesn’t want that, however, and so the Fed has stepped in to monetize much of the debt that the government has recently issued. Just as the national debt increased by over $3 trillion after passage of coronavirus relief, so too did the Fed’s balance sheet increase by over $3 trillion.
The danger of debt monetization, however, is that once the government realizes that the central bank will monetize its debt, the government will try to issue more and more debt and force the central bank to keep monetizing. And as more debt is monetized, more money is created, and inflation starts to get out of control.
We’ve seen this hyperinflationary death spiral occur around the world, and we thought it could never happen here. Yet here we are, with the Fed actively abetting the federal government and monetizing trillions of dollars of newly-issued debt. If the Fed isn’t careful, this could end very badly.
How Do the Fed’s Actions Affect You?
A lot of people think that what goes on in Washington doesn’t affect them directly. Or they may not understand monetary policy and pay it no attention. But make no mistake, the Fed’s new policies will affect Main Street investors negatively.
The first way that investors will be affected is through higher inflation, as the Fed is not only going to tolerate higher inflation rates, it will also attempt to stimulate further inflation. But as the saying goes, be careful what you wish for.
The Fed has a poor track record when it comes to inflation, and there’s a high likelihood that if it is successful in stimulating higher inflation, it won’t be able to control it. So when the Fed says that it’s targeting higher inflation, be mindful that hyperinflation is a not unlikely scenario.
Higher inflation means a reduced purchasing power of your dollars and a higher cost of living. Retirees are already facing pressure from rising costs, more expensive healthcare, and minimal Social Security cost of living adjustments. Higher inflation in the future will make it more difficult for retirees to get by.
This higher inflation will also reduce the value of savings and investments, as the dollars in which your investments are denominated will become less and less valuable each year. This is why inflation is often referred to as a stealth tax. You think that you’re becoming richer because the nominal figures in your retirement accounts are increasing, but as those nominal figures increase the amount of goods and service they can purchase decreases.
How Can You Protect Yourself?
If you’re aware of the dangers posed by the Fed’s new monetary policy, you’re probably wondering how you can protect yourself. Thousands of investors just like you have wondered the same thing, which is why they’ve made the decision to invest in gold. Gold has been trusted by investors for centuries to protect their assets against inflation and financial turmoil. And if we should be so unfortunate as to fall into hyperinflation due to the Fed’s actions, those with gold will likely fare better than those without.
Investing in gold has come a long way over the centuries too, with new products and services making it easier and easier for investors to protect their retirement savings with gold. Among the more popular investments today is a gold IRA, which allows investors to roll over assets from existing retirement accounts into a gold investment.
With a gold IRA, you retain all the tax benefits of a conventional IRA account, while giving yourself the ability to invest in physical gold coins and bars. And when you choose to take a distribution from your gold IRA, you can choose whether to take a cash distribution or take delivery of your gold coins or bars.
A gold IRA offers investors new opportunities and new choices to protect themselves and their investments against the ravishes of inflation. If you’re worried about the dangers of inflation and looking to safeguard your retirement savings, contact the experts at Goldco to learn more about how a gold IRA can help you do that.