The Fruits of Civilization (26-10-3) Tweaking Financial Vitality


Today, as ever, monetary dynamics are a crucial aspect of economic stability and growth. But this critical element is largely out of control.

 Tweaking Financial Vitality

Government financial overseers, such as the US Federal Reserve and UK Bank of England, once effectively controlled the money supply. That leverage was lost as cash became less important and credit financial instruments played a larger role in economic affairs. Now regulators are largely relegated to measures that only indirectly affect private financial activity.

Governments nudge short-term lending rates by adjusting the interest rate at which depository institutions, such as banks and credit unions, lend reserve balances to each other overnight on an uncollateralized basis. This is called the federal funds rate in the US.

The major tool used to affect the supply of reserves in the banking system is open-market operations: buying and selling government securities on the open market. Banks with more reserves have money to lend and vice versa.

Financial regulators may also directly lend money to financial institutions at varying rates to affect financial activity. It is a selective succoring of favored financial firms.

Markets are routinely rigged in favor of the rich. ~ Ha-Joon Chang

When credit markets are dysfunctional following a financial panic, government overseers selectively buy assets to improve liquidity in credit markets and increase private institution reserves. This is termed quantitative easing (QE), and amounts to bank bailouts at taxpayer expense. QE is intended to boost the volume of money in circulation, and so stimulate spending. Instead, it mostly lines bankers’ pockets.

Equity markets perform much better when interest rates are falling than when they are rising. Taking this into account, the British and American central banks cater to their financial markets: postponing rate increases when market volatility is high, for fear of causing further upset, but responding to high volatility with rate reductions if the risk of overheating the economy is not obvious. This skewed attitude is a basic mechanism by which governments blow big financial bubbles.