federal reserve

The Fed’s Response to COVID-19 Is Impressive — and Alarming

I, for one, don’t necessarily welcome our technocratic overlords. Photo: Andrew Harrer/Bloomberg via Getty Images

Earlier this week, congressional Democrats and Republicans were locked in contentious negotiations over what the American public should ask of corporations before bailing them out. Conservatives contended that Uncle Sam should not interfere with these private enterprises’ internal affairs. After all, airlines, hotels, fast-food chains, and retailers didn’t create the economic crisis that now threatens to bankrupt them. Rather, the government’s failure to prepare for the COVID-19 pandemic — and the heavy-handed social distancing measures that its under-preparation necessitated — robbed these companies of expected revenue. Thus, the state had an obligation to extend cheap credit to corporate America, no strings attached.

Progressives saw things differently. In their view, all corporations are, fundamentally, creations of the state. After all, it was our democratically enacted laws of limited liability that brought these institutions into being, and our publicly funded infrastructure, technology, education, and social services that undergird their profits. In recent decades, our corporate-funded political class had rewritten the rules of our market economy in a manner that redounded to the benefit of corporate executives and well-heeled shareholders — thereby enabling the rich to commandeer the gains of economic growth. Now, in a context of neo-feudal levels of wealth inequality, the American people shouldn’t be asked to stem the capitalist class’s losses unless we get something in return: Bailed-out corporations should have to provide their workers with job security, collective-bargaining rights, board representation, and higher wages, and provide the broader public with voting shares.

And then — while these factions were still arguing — the Federal Reserve went ahead and started lending money directly to private corporations with no significant conditions.

The central bank’s unprecedented decision to start directly financing the “real economy” — as opposed to lending to private banks — came in the face of equally unprecedented conditions. The coronavirus pandemic hadn’t just obliterated demand in the service sector. It had also indirectly threatened the ability of virtually all corporations to access affordable credit, even if their business models were somewhat insulated from the effects of mass lockdowns and social distancing. Investors had lost their appetite for all manner of corporate bonds. This was partly due to a self-reinforcing flight to cash: Once anxiety led some investors to shy away from bonds, other investors began to fear that, if they didn’t also abandon the market, they would end up saddled with bonds that were impossible to resell without taking a steep loss. The Fed therefore moved to shore up liquidity (i.e., convertibility to cash) in the corporate-bond market through a relatively conventional intervention: It started buying corporate bonds from financial institutions at a rate intended to stabilize demand for such instruments. (The name for this program is the “Secondary Market Corporate Credit Facility,” or SMCCF.)

But investors’ skittishness about buying corporate bonds wasn’t just about liquidity. It also reflected fears that a wide variety of companies might not be able to pay back their debts, given the COVID-19 crisis and its potential ripple effects. The Fed could not solve that dimension of corporate America’s funding woes by juicing demand for its bonds on secondary markets. Rather, this problem could only be significantly mitigated by providing cheap public credit directly to private firms. Which is, traditionally, the kind of thing that requires the approval of our government’s elected branches. But the economy was imploding, and Congress was dilly-dallying — and so the Fed just went ahead and established a Primary Market Corporate Credit Facility (PMCCF).

Narayana Kocherlakota, former president of the Federal Reserve Bank of Minneapolis, found this alarming, writing for Bloomberg View:

[T]he Fed shouldn’t get in the business of lending directly to corporations through a vehicle like the PMCCF. Because the Fed is fixing the liquidity problems through the SMCCF, its direct loans are simply a way to assume default risk without receiving a compensatory return. This is simply a direct taxpayer subsidy to corporate shareholders. 

Right now, there is a debate in Congress about the shape of a fiscal stimulus package. The administration clearly believes that corporate subsidies are desirable. Its Democratic opponents are much less convinced. By setting up the PMCCF, the Fed is using its independence to decide this important and necessary debate in favor of the White House. Congress would be doing the Fed a favor by eliminating its ability to make direct loans to nonfinancial corporations. 

But Kocherlakota was lonely in his alarm. For understandable reasons, few lay news consumers took much interest in (or notice of) the central bank’s latest alphabet soup of inscrutable lending programs. And anyhow, days later, the Senate gave its formal blessing to the Fed’s direct lending to corporations. Democrats were able to attach a couple modest conditions to the loans. But the terms were far more lax than progressives had been calling for; the public will assume the risk of lending to embattled corporations without securing any significant claim on their future profits, or durable influence over their operations. Meanwhile, discretion over which businesses should and should not be bailed out was largely outsourced to the unelected bureaucrats at the central bank. Congress simply provided the Fed with a (largely symbolic) $454 billion pot of capital with which to backstop upward of $4 trillion worth of loans, leaving the central bank in charge of divvying up that credit between individual corporations, small businesses, and state governments. There is now a bipartisan consensus in favor of top-down economic planning — just so long as that planning is done by officials who are less accountable to the median voter than to the median investment bank, debated far afield from the media spotlight, and articulated in acronym-laden jargon completely inaccessible to ordinary people.

Our elected officials haven’t just been contracting out wide swaths of economic policymaking to the Fed. They’ve also been letting the central bank make immensely consequential foreign-policy decisions with no public scrutiny or debate.

During the 2008 financial crisis, private banks all across the world suffered from a sudden shortage of U.S. dollars. Such institutions had financed hundreds of billions in dollar-denominated loans by borrowing U.S. currency on wholesale money markets; when investor panic depleted those markets, their funding suddenly dried up. The Federal Reserve came to their rescue. By establishing dollar swap lines with foreign central banks — which is to say, allowing those banks to trade their own currencies for however many dollars their nation’s private banks happened to need — the Fed effectively bailed out banks throughout Europe. This constituted nothing less than an epochal reformation of global economic governance, executed with virtually no democratic input or even public awareness. As the historian Adam Tooze summarizes the development, “The central banks had, in other words, staged their Bretton Woods 2.0. But they had omitted to invite the cameras or the public, or indeed to explain what they were doing.”

The Fed’s dollar swap lines — like most of their crisis-fighting measures, both in 2008 and today — were preferable to inaction. Few Americans (or humans more broadly) would have been well-served by cascading bank failures across the pond. But our central bank didn’t just impartially stabilize the global financial system — it decided which foreign nations’ central banks would enjoy privileged access to dollars and which would not. Western Europe was cut in on the deal; Eastern Europe was not. These policy choices had profound geopolitical consequences, and were made without any input from the House Foreign Affairs Committee, Senate Committee on Foreign Relations, or any other elected body.

Last week, with global banks once again running short on dollars, the Fed reestablished unlimited drawing rights for all 14 of the central banks that had enjoyed such privileges 12 years ago. Whether the central bank sticks to that legacy system — or extends its largesse to dollar-starved developing countries and/or China — is a question with wide-ranging economic and geostrategic implications. And it’s one that none of our elected officials are publicly debating.

There is much to admire in how the Federal Reserve has conducted itself under chairman Jerome Powell’s leadership. After decades of prioritizing the prevention of hypothetical inflation over the elimination of actual unemployment, Powell’s Fed has kept interest rates historically low so as to facilitate genuinely full employment. After Alan Greenspan strong-armed the Clinton administration into deficit reduction, Powell explicitly encouraged House Democrats to go big on fiscal policy. And as Congress spent the past two weeks struggling to formulate a relief package remotely commensurate with the scale of the economic crisis, the Federal Reserve has taken a series of quick, ambitious, and creative actions to keep the financial system afloat.

But there’s also much to lament about the outsize role that the Fed has come to play in governing our self-professed republic. For much of our nation’s history, questions of monetary policy — which is to say, of how the money supply should be managed, and credit should be allocated — were at the very center of democratic debate. In fact, the desire to secure monetary democracy was among the animating passions of the American Revolution.

In 1764, Britain forbade its American colonies from printing new paper money, a policy that produced a currency shortage and devastating deflation. As money appreciated in value faster than agricultural products, farmers struggled to pay back their existing debts, and were forced to accept onerous terms on new credit. In this context, popular control over the powers of money and credit creation became central to colonists’ conception of independence and self-government.

The historian Terry Bouton has detailed how radicals in revolutionary-era Pennsylvania sought to secure democratic control of what would later become the (putatively nonpolitical) Federal Reserve’s core functions.

To bring money and credit to the masses, Pennsylvanians…called for the creation of a government-run “loan office” to offer ordinary folks low-cost mortgages as long as they owned a modest amount of land or property…At the time, most Pennsylvanians believed that privatizing finance – turning control of money and credit over to private banks – promoted inequality and oppression and, therefore, posed a threat to liberty every bit as dire as control by Britain. People viewed private banks (which did not yet exist in America) as dangerous institutions that undermined freedom by putting economic power in the hands of unaccountable men.

Once independence was secured, the revolution’s merchant and planter wing beat back the masses’ calls for democratizing finance. But the ambition to exert popular influence over monetary policy remained integral to democratic movements in the United States for more than a century, animating the original Populist Party’s calls for expanding access to money and credit through the unlimited coinage of silver.

Today, private finance reins supreme, and monetary policy has been depoliticized. Goldbug cranks, socialists, and MMTers may agitate against the Fed’s independence from popular influence. But for the median voter, monetary policy is neither salient nor readily comprehensible. Meanwhile, liberals and conservatives alike hail the central bank’s immunity from popular passions as a positive good. And not without reason.

These days, even a militant small-d democrat might have trouble getting worked up about the Fed impinging on this Congress’s prerogatives. After all, our federal legislature routinely acts in blatant defiance of public opinion, allows the hired hands of well-heeled interest groups to write its laws, and spends much of its time soliciting campaign funds from plutocratic patrons. Our central bank may be a bit more insulated from democratic accountability. But at least its policymakers boast some genuine expertise, and are capable of responding to pressing challenges without first engaging in several days-worth of performative demagoguery. If our options are to be ruled by a blundering, pseudo-democratic body (a.k.a. Mitch McConnell’s Senate) — or by competent, unelected technocrats — one might reasonably prefer the latter.

And yet, Congress’s present dysfunction is not extricable from the depoliticization of money and credit that such dysfunction now serves to justify. In truth, the past four decades of exploding inequality, trade-union decline — and the plutocratic politics that these two developments have facilitated — are in no small part attributable to the deregulation of finance and undemocratic monetary policymaking of the late 1970s. In that era, a crisis of low growth and high inflation had rendered credit scarce. And New Deal-era financial regulations politicized this scarcity: Congress found itself in the position of routinely needing to ration credit between its disparate constituencies; if it rewrote regulations to channel more lending towards businesses, it would threaten the availability of credit to homeowners, and vice versa. As Greta Krippner documents in her book Capitalizing on Crisis, Congress’s embrace of financial deregulation was largely motivated by the desire to escape such difficult votes by letting the “free market” ration credit for it. This had the unintended consequence of making credit abundant — albeit, for many working Americans, at usurious interest rates.

Meanwhile, under Paul Volcker’s leadership, the Federal Reserve chose to lick the country’s persistent inflation problem by giving price stability absolute priority over full employment. In the view of Volcker and his fellow technocrats, reducing price growth required reducing demand, which required reducing working-class wages. To achieve the latter, Volcker engineered a recession by raising benchmark interest rates to unprecedented heights. This policy had its intended effects — along with a variety of others. The exorbitant price of credit in the early 1980s didn’t just drive up unemployment (and thus, drive down workers’ bargaining power). It also gave large corporations an immense competitive advantage over less creditworthy small businesses, thereby fueling corporate consolidation. Meanwhile, sky-high benchmark interest rates — combined with deregulated financial markets — redistributed enormous sums of wealth from debtors to creditors. Add to all this Ronald Reagan’s regressive changes to the tax code and assault on organized labor, and you get a recipe for a neo-Gilded Age.

The coronavirus crisis is changing our world in many sorrowful respects. It has rendered our already atomized and aching society poorer, sicker, and lonelier than it was a few months ago. If this week’s bailout legislation plays out as some progressive analysts predict, the pandemic’s economic side effects will accelerate corporate concentration and income inequality.

But this disaster also offers a vital opportunity for beneficent forms of change. By accentuating the perversity of our nation’s employment-based health insurance model — which is now causing millions of workers to lose coverage in the midst of a pandemic — the crisis creates an opening for progressives to remake the politics of health reform. By spotlighting the indispensable labor that grocery store clerks and delivery drivers contribute, it could help unionists illustrate the market’s unjust undervaluation of such “low-skill” work. And by politicizing just about every aspect of our economy — which is to say, by forcing Congress to demonstrate the private sector’s dependence on the state, and to allocate scarce subsidies and credit between corporations, small businesses, and individuals — the crisis gives us a fighting chance to secure a more democratic and egalitarian form of economic governance.

Unless, ya know, we just throw up our hands, curse those clowns in Congress, and wait for Jerome Powell & Co. to restore some facsimile of the world we just lost.

The COVID-19 Crisis Is Exposing America’s Democratic Decline