Former Federal Reserve analyst and author of Fed Up: An Insider’s Take on Why the Federal Reserve is Bad for America
What the Fed Really Thinks
We tried our hand at deciphering “Fed speak” in our inaugural issue of American Consequences. Now, we have an expert who really knows what the Federal Reserve thinks…
Danielle DiMartino Booth is a former Federal Reserve analyst and author of Fed Up: An Insider’s Take on Why the Federal Reserve is Bad for America, an exposé of how the Fed has abandoned its responsibility to the American people.
Her book is a call for change in how the Fed is run. It criticizes the Fed’s bias towards Wall Street and the ways its policies have made housing unaffordable, stagnated wages, ballooned student debt, and failed to serve the American taxpayer.
As a former advisor to the Dallas Fed president, Danielle saw firsthand how Fed leadership ignored the signs of trouble and pursued policies that fueled the looming disaster of 2008.
Danielle got the crowd at the 2017 Stansberry Conference and Alliance Meeting so fired up that she received a standing ovation. And she recently joined Investor Hour hosts Buck Sexton and Porter Stansberry to talk about capitalism, the massive debts across the system, and even the value of a liberal-arts degree…
Q: I’d like to start out with a question I wonder if you’ve ever been asked before… Do you believe that free market, unfettered capitalism is a moral system?
Danielle DiMartino Booth: I think it’s the most moral system out there, because it’s based on something that I consider to be honest and true. And that is nature having its way with price discovery, which has been distorted and corrupted since Alan Greenspan took office just over 30 years ago.
Q: I share your sentiments… And do you believe that what the Fed does is moral?
Danielle DiMartino Booth: I do not. There’s a lot of happy news on the wires that median incomes have finally surpassed their 1999 levels. That’s good and well, except for the fact that Fed policy has led to record levels of wealth inequality.
And to add insult to injury for your average working American, it’s fine that median incomes have finally surpassed prior levels, but the cost of housing has galloped way past that, negating the benefits of income gains. Housing is something that was terribly distorted by the Federal Reserve for two entire cycles. Now we have the cost to rent and to buy higher than it’s ever been.
I consider the central bank potentially to initially have been well-intentioned, but no longer. They’re absolutely corrupt.
Q: Who are the primary beneficiaries of the Federal Reserve? Who has captured that institution to their own advantage in our country?
Danielle DiMartino Booth: Wall Street has captured a lot of the benefits. And the federal government has captured a lot of the benefits.
We’ve had one of the stealthiest and quietest expansions of the social safety net in the history of this country because of artificially low interest rates. So I would say that Uncle Sam and those on Wall Street have benefited to the greatest extent.
Q: What role does the Fed play in allowing the total debt of our country, both public and private… as well as the banking system… to expand to unprecedented size?
Danielle DiMartino Booth: In the current era, there’s a lot of the right hand not knowing what the left hand is doing. We have an overabundance of regulators in this country. I’ll give you one example from the book…
On the day that the OCC was shutting down IndyMac during the height of the sub-prime crisis, Janet Yellen – of the San Francisco Fed, which she ran at the time – was attempting to extend it a line of credit. So there’s a lot of confusion among our regulators. There’s a lot of misunderstanding of the conventional versus the shadow banking system.
And then you go back to what we were talking about earlier, and that is artificially low interest rates. We now have record levels of investment-grade corporate debt. We obviously have just surpassed the $20 trillion milestone in terms of U.S. government debt. And we have record levels of consumer credit outside of the mortgage arena.
But in the current rendition, since the great financial crisis broke, much of it is in unsecured debt. We’re talking about automobiles that lose a huge amount of their value the minute they’re driven off the lot, and a used-car price environment that is declining because too many people have bought more cars than they can afford, and student loans. Again, this is unsecured debt, as opposed to having something you might be able to liquidate and salvage some of the value, which is what happened in the aftermath of the subprime mortgage crisis.
Q: What do you think would have happened in 2008 and 2009 if the Fed hadn’t been able to radically expand its balance sheet?
Danielle DiMartino Booth: Well, I think that we would have had a much nastier corporate-default cycle than we did. I think we would have potentially had an RTC type of solution to the mortgage crisis. And I think that there would have been a greater washout among investors, and less in the way of excessive and further moral hazard created due to the central bank riding to the rescue.
Recall that the liquidity measures put in place to unfreeze the credit markets by the New York Fed had diddly-squat – that’s a technical term – to do with the Fed expanding its balance sheet. One did not have to go alongside the other. It was a liquidity freeze that needed solving, not the QE2 and QE3 that again just benefited a very small tony cohort and Uncle Sam.
Q: I remember one of the big problems in 2009 was the commercial credit log jam and lockup. Do you think that could have been solved without the Fed expanding its balance sheet?
Danielle DiMartino Booth: I was there when then-Dallas Fed president Richard Fisher asked me to get all the top-ranked commercial paper on Planet Earth. We created a facility at the time, live, on the ground to resolve the freeze-up in the commercial paper market.
A lot of what was created by the Fed’s quantitative easing has made its way into malinvestment, to use an Austrian term… And a lot of it went into pulling investment forward that didn’t need to be done at the time.
Q: What role has all that money and all those bailouts played in exacerbating the wealth disparity in our country?
Danielle DiMartino Booth: It’s played a tremendous role. If you think in terms of QE2 and QE3, when I was jumping up and down, pounding the table saying, “You’re going to hurt the people you’re supposed to help – i.e. Joe Sixpack and Jane Q. Worker on Main Street – if you insist on distorting the cleaning out of the housing market.”
Today, you have multibillionaires buying homes to rent out, and they’re price-agnostic buyers playing with somebody else’s money, making 2 and 20, and all they’re going do is jack up rates. And lo and behold, a front-page Wall Street Journal story recently said that single family home rental rates are hundreds of dollars on a per-home basis higher than they would be otherwise.
This, again, is hurting the average U.S. household who spends upward of a third and up to 50% in major markets of their income after tax on housing. That’s who it hurts the most.
Q: The two largest areas of credit excess today are in the corporate-bond market and the student-loan area… You have had junk bonds trading at option-adjusted yields that are lower than investment-grade bonds, meaning there’s an enormous inflation in the value of junk bonds. And there’s been, therefore, way more of those issued than will ever be repaid, in my view. And more than 40% of student loans that ought to be being serviced are not being serviced. That’s a huge default rate, if anyone ever calculated it correctly. Do you have any insight to how those two big bubbles will be resolved?
Danielle DiMartino Booth: Well, I think that some of the recent work by the Bank of International Settlements suggests that the over-indebtedness is going to be difficult to resolve against a backdrop of basically an emerging middle class in other parts of the world.
We’re going to shift on a demographic dime soon, in large part because there are burgeoning middle classes in China and India. There are more of them than there are us. This will collide with the debt that’s been built up in the sense that debtor nations will be tried if they try to go too far down the path of debt forgiveness.
And if you gave truth serum to any politician in America – regardless of their political affiliation – I think they would tell you that in order to maintain millennials as voters going forward, it’s going to come down to the student-loan debt forgiveness. Which is just a great lesson to teach an entire generation.
Q: Do you think there’ll ever be a way of funding college with equity instead of with debt?
Danielle DiMartino Booth: That’s an interesting way to approach it. But I think on a more fundamental level, education’s overpriced. That started with cash-out refinancing. People took money out of their homes and sent their children to school, which accelerated the pace tremendously if you look at the chart of college tuition inflation. It really took off during the housing boom years.
And much more important, we’re finally starting to see consolidation in colleges, the way we have seen in many inefficient industries. So we’ll see a lot of them close. That’s a good thing. I’m not disparaging of anybody’s alma mater. But certainly, we need more vocation in this country.
There is a reason – aside from outright currency manipulation via the euro – that the Germans have continued to excel since the great financial crisis. And a lot of it has to do with the fundamental structure of their higher education system, which does not attach a stigma to vocational education. So you’re able to continue climbing up the manufacturing ladder going forward, in addition to having STEM and educating engineers. We don’t need as many liberal-arts majors as we’ve got running around out there.
Q: I’ve got one last serious question for you. I want to get back to the other debt bubble that I spend a lot of time on, which is the corporate debt bubble. And I’m sure you’re familiar with the name Martin Fridson, the “dean,” if you will, of high-yield debt on Wall Street.
Danielle DiMartino Booth: Oh, absolutely. Marty is a good friend. Yes.
Q: And Marty is forecasting something on the order of $1.6 trillion in defaults by 2021 or 2022 or so, over the next three or four years, over the next credit-default cycle. Do you share that outlook? Do you think it’ll be that bad?
Danielle DiMartino Booth: I do, but he comes at this from the prism of the godfather of junk. And I come at this from the prism of investors in the same way they look the other way with subprime mortgages having a AAA rating.
I think investors have looked the other way with investment-grade debt. There’s too much of it out there. I think we are going to be living in a world populated with fallen angels.