A WSJ Obituary Lays Waste To a Simplistic Federal Reserve Narrative

It’s often said that “red” and “blue” are divided as ever. But like most things, this bit of conventional wisdom is overstated.

Consider the Federal Reserve. President Trump and his most ardent supporters are convinced that the Fed’s rate machinations in the upward direction somehow slowed the economy and tanked markets right at the end of last year. Right is italicized in the previous sentence because according to Trump partisans, the economy and markets were amazing right up until that quarter point hike.

One guesses the Trump crowd wouldn’t agree on much about public policy with Jeanna Smialek, Fed-watcher at the New York Times, but it seems there’s comity when it comes to Fed’s alleged ability to plan economic growth through its rate lever. Reporting on the Fed’s most recent rate reduction last week, Smialek relayed to readers without a hint of irony that officials at the central bank “wanted to inoculate the economy against the harmful effects of uncertainty and slowing global demand, which have included diminished business investment and manufacturing weakness.” Weak economy? Just call the Fed!

It seems we’re all central planners now, at least when central bankers are bent on engineering economic outcomes. Both sides apparently think the Fed capable of altering reality for the better, assuming intervention in the natural workings of the markets is a worthy endeavor to begin with.

For now let’s leave the right and left’s growing comfort with intervention aside, and simply consider the conceit that the Fed, for being the Fed, is capable of engineering a better print for the worthless number that is GDP. That’s apparently the consensus. The experts believe the Fed can create good times, and also err us into bad times. 

Writing last week in the Wall Street Journal, former Federal Reserve Board member Kevin Warsh added his voice to countless other economic eminences in his critique of the Fed’s actions at the end of last year. Though he had no explanation for why it was “a poorly timed rate hike last December,” the "economically correct" view is that the Fed’s December 2018 hike somehow made credit tight, and was causing partial economic asphyxiation before Jerome Powell et al apparently saw what was already obvious to the economically prominent. It doesn’t matter that the Fed projects its always overstated economic influence through banks that generally can’t lend toward growth, and it also doesn’t matter that banks aren’t much of a credit player to begin with, to economists and those who play them on television and in print, the Fed decides whether or not the economy will grow.

Still, with Warsh there’s perhaps reason to believe he doesn’t quite believe what the others do. For one, in presentations given to economics writers over the years at the Hoover Institution, Warsh has betrayed skepticism about Fed mysticism. Having seen things from the inside, one gets the feeling he knows the Fed can’t do what so many think it can.

To watch Warsh present his thoughts is to come away convinced that underneath his polite rhetoric about the central bank that once employed him, he’s too logical and arguably too jaded to buy into the comical notion that the average minds at the Fed can somehow do what central planners have never been able to do: fine-tune the infinite actions of hundreds of millions of individuals taking place every millisecond in concert with billions around the world. Warsh knows the people in the Fed’s employ. Get it? It’s not Bezos, Buffett and Gates at the controls, even though those three would similarly fail stupendously if given the U.S. economy’s proverbial reins.

So why the pretense on the part of someone who saw the world’s foremost central bank operate up close? This answer is a little bit easier. Warsh is human. His prestigious franchise is rooted in the perception that the U.S. and global economic outlook hinges on what the Fed does…Try not to laugh.

To those with even a hint of common sense the very notion that the world’s most dynamic economy is reliant on Fed machinations is just too silly to contemplate. Funny here is that Trump partisans somehow don’t see this truth. Don’t they know that in tying the future health of the “Trump economy” to the Fed, that they’re thoroughly insulting the “Trump economy”? But that’s a digression.

In Warsh's case, he has to know better. So why the pretense on his part? One guesses that hard as it is to make a consistent case that the Fed’s actions guide the world’s most prosperous economy, it’s better than the alternative. If Warsh admits what’s obvious, that the Fed is a legend in its own mind, and in the simplistic minds of the pundit and political classes, quite a bit fewer will hang on his every word. And so Warsh writes, and writes, seemingly hopeful that the jotting down of economic "lyrics" as it were, will lead to a hit insight that justifies a focus on the Federal Reserve.

Last week Warsh searched for a catchy chorus that would combine “Fed” and “soft power.” At one point he suggested the Fed’s review of its "policy framework" should “be measured by its ability to translate the Fed’s soft power into firepower.” At another point he asserted more confidently that in the future, central banks “better equip themselves with an abundance of soft power.” Countless “soft power” mentions in a 1,500 essay, but the economic equivalent of “A Day In the Life” never materialized.

In Warsh’s defense, it’s hard to write catchy choruses that translate to beautiful music when the Fed is your muse. Try as those close to it might to make it seem otherwise, the Fed is just not that important. Never was, and never will be.

To see why, consider legendary Silicon Valley venture capitalist Don Valentine. The man who was an early investor in Atari, Apple, Cisco, Oracle, Google, Airbnb, and Square (among others), died last week. It was mentioned in his Wall Street Journal obituary that when Valentine got started in the early 1970s, less than $50 million was available for investment in start-ups. So much has changed since then.

So what happened? Did so-called “easy” Fed money cause investment in Silicon Valley to surge, such that a formerly sleepy locale south of San Francisco soared from out of nowhere? More realistically, Atari, Apple, Cisco, Oracle, Google, Airbnb, and Square happened, and their successes proved a magnet for copious amounts of human and financial capital. No doubt some of that human and financial capital migrated to northern California from Detroit and areas close to it; Detroit a powerful magnet for human and financial capital 100 years ago.

Crucial here is that the Fed, utilizing its open market operations that inspire awe in those who should know better, could not impoverish Silicon Valley today any more than it could enrich Detroit. People free to be commercially creative power prosperity, and at present the vital few drivers of prosperity populate Silicon Valley in abundant fashion, while they’re scarce in Detroit.

The main thing is that the Fed is powerless to alter the reality described in the previous paragraph, and if it were to try to, market forces would reverse its vain attempts at central planning faster than it would take readers to read this piece. One guesses Warsh knows this truth too. Unknown is if he’ll ever admit what he likely knows.