Originally published: November 2021
One of the most polarizing topics today is wealth inequality.
I think a better description is to refer to it as wealth concentration. Nobody should expect wealth to be equal in a society, but when wealth becomes extremely concentrated (way more unequal than usual), it’s often a sign that something isn’t working well and the society shifts towards higher levels of populism.
After a while of that, the odds start to increase for some sort of major policy reversal (soft case) or outright revolution (hard case).
That’s why it’s a macro topic that is important for investors to keep track of; extreme wealth concentration affects the likelihood of various otherwise-improbable fiscal or monetary policy changes occurring. And famous fallen empires in history often had very high levels of wealth concentration in the years leading up to their unraveling.
Chart Source: Washington Post, Oren Cass
But what is causing it? Which policies would be effective at addressing it? How concentrated are we, anyway? This article takes a look at the data, and in particular focuses on the popular question of whether a country’s central bank is the primary cause of wealth concentration.
If we aren’t familiar with history, we’re doomed to repeat it. Or perhaps more realistically, we’re doomed to repeat it to some extent anyway, but with knowledge, the hardships of the repetition can be mitigated. For politicians that means through policy decisions, and for us investors, that means through asset allocation decisions.
Specifically, if we expect wealth concentration to get 1) better or 2) worse, that direction should inform some of our investment decisions. Therefore, it helps to know which policies tend to contribute to wealth concentration more than others, so we know what to watch for.
Does QE Cause Wealth Inequality?
The Federal Reserve has been controversial ever since its creation in 1913. As an institution it is mostly privately owned by banks, but top positions are appointed by the executive and legislative branches of the US federal government, and most of the profits it earns are sent back to the US Treasury after paying out a dividend to its shareholders. This is an unusual hybrid construction compared to the central banks of most other countries.
It’s not the only unusual one, though. The Bank of Japan, the National Bank of Belgium, and the Swiss National Bank are unusual in the sense that they are all publicly-traded. They have stock tickers and you can buy shares of them.
The Fed’s role has expanded over the years, and its decisions often seem opaque and arbitrary. A small number of unelected people in a room dictate the price of money for a country of 330 million people, and can create new reserves out of thin air, or destroy reserves from the system.
In the Eurozone it’s even more interesting; a supra-sovereign entity dictates monetary policy because individual sovereign countries merged their currencies together into the euro, which is run by the European Central Bank or “ECB”. And the ECB, by buying most of the sovereign bonds of those nations, suppresses their interest rates and basically determines whether that country’s government is solvent or insolvent. The countries, then, are beholden to the ECB, which is an entity outside of their sovereign jurisdiction.
The Fed’s (and other central banks’) public track record of anticipating inflation and GDP growth, and even projecting its own future interest rates that it will set, have been quite poor. This is in part because despite the fact that it’s officially independent, the Fed is inherently a political organization, although political doesn’t necessarily mean partisan. Much like the Congressional Budget Office, the Fed can never really forecast a recession, for example, because it risks that forecast becoming a self-fulfilling prophecy. It has to talk in “political speak”, in other words.
So, much like how the CBO always projects ten years of smooth growth ahead without a recession, the Fed always projects a normalized smooth long-run positive economic growth rate, and mildly positive real interest rates, albeit usually with some near-term fluctuations.
Decades ago, relatively few people outside of financial professionals could name the chair of the Fed, but now that person is more widely followed by most folks tangentially related to investing, since this has become a “macro heavy” period of time and the Fed’s role has expanded considerably.
The Fed’s primary tools are that they can control interest rates and they can create new base money. They don’t have reserves in other words, like they don’t have a stockpile of wealth stored away to deploy in troubled times, but they can create reserves, which are just digits in a ledger.
Their secondary tools are that they can perform various repurchase and reverse-repurchase operations, can lend dollars to foreign central banks (so that those foreign central banks don’t have to sell US assets to get dollars during dollar liquidity crises), and can suspend or change some of the rules they have for commercial banks in terms of leverage and other matters.
Ultimately, most of these activities represent various ways of using the Fed’s balance sheet, including how they use their balance sheet to maintain interest rates within their target levels.
The Fed’s balance sheet has expanded by almost 10x in size since 2008. Its balance sheet was unremarkable for decades, and then it started exploding ever since the global financial crisis. The same is true for other central banks around the world.
Chart Source: St. Louis Fed
These days, everybody even tangentially related to finance or investing has an opinion on the Fed, and often not a very positive one.
One of the most topical complaints ever since 2008 is the idea that quantitative easing or “QE” by the Federal Reserve causes wealth concentration. I ran a poll on essentially that subject a while ago to check sentiment, and well over 90% of people thought the Fed is either the primary cause of it or a secondary cause of it:
QE refers to when the Fed creates new base money or “bank reserves” to buy financial assets, such as Treasuries and mortgage-backed securities, from various institutions. I covered the mechanical aspects of this in my article on money creation. That’s what makes their balance sheet go way up, in other words.
Wealth concentration has indeed increased in recent decades. That’s unmistakably obvious. Here’s a chart that shows the percentage of wealth owned by the top 1% in blue eclipsing the percentage of wealth owned by the entire bottom 90% in the US:
Chart Source: St. Louis Fed
Overall, the top 1% have about one-third of the net worth, the next 9% of people have another third, and the entire bottom 90% have the remaining third.
The question, then, is whether the Fed’s QE primarily caused it. The Fed’s balance sheet went up a lot, and wealth concentration went up a lot. However, wealth concentration was already going up prior to that, when the Fed’s balance sheet was negligible.
The logical case for why the Fed’s activities cause wealth concentration is that low interest rates and high levels of QE tend to boost asset prices, such as stocks and real estate, which are primarily owned by the wealthy. By making homes and stocks more expensive and unaffordable, it widens the wealth gap between those who owned those assets before the Fed began its QE vs those who were not yet significant asset holders when this occurred. There are other more nuanced arguments, but let’s start with that one, because that’s the main one.
If that’s the case, and QE is indeed a powerful force for wealth concentration, we should see that the nations that have the lowest interest rates and that have performed the most QE relative to their GDP, have the highest levels of wealth inequality, right?
In reality, we find the opposite.
Looking at Japan, the Eurozone, Britain, and the United States (the four biggest developed market currency areas), via data collected from Trading Economics, these are their approximate central bank balance sheets as percentage of GDP, which is a measure of how much new currency creation via QE to buy assets they have performed relative to the size of their economies:
- Japan: 125%
- Eurozone: 72%
- United Kingdom: 49%
- United States: 37%
This chart with a similar but slightly different dataset shows the central bank balance sheets of the US, China, Japan, and Euro Area relative to GDP:
Chart Source: Yardeni
The UK isn’t on that chart but if it was, it would be higher than the US and China, but lower than the Euro Area.
And here is the comparison of mean vs median net worth in the United States, United Kingdom, Japan, and major Euro Area nations. The higher the mean/median ratio, the more wealth is concentrated into the hands of the top few percent:
The regions that did the most QE relative to their GDP, and that have had lower interest rates for longer, have less wealth inequality, not more, as measured by the ratio of the mean wealth divided by the median wealth.
If the prior theory was true, we should have seen the opposite. More of a correlation, rather than an inverse correlation.
Japan, for example, did far more QE relative to its GDP than the United States, and has had much lower interest rates for decades than the United States, but has far lower wealth inequality than the United States. The Euro Area countries are a bit more diverse in terms of wealth inequality, but are generally in the middle between the United States and Japan, and they were also middling in terms of their amount of quantitative easing relative to GDP, and their length of time spent at near-zero rates. The US did the least QE as a percentage of its GDP, and has had higher average interest rates over the past decade, and has the most wealth inequality.
I’m not making the argument that QE reduces wealth concentration, because that’s not the case either. Instead the point is, it’s complicated. QE and interest rates by themselves are significantly uncorrelated (or even inversely correlated) variables vs how much wealth concentration a country has, when comparing between countries.
That is an uncommon view, but that’s simply how the math works out. Clearly we need to look at the nuances.
Fiscal Policy: The 800-Pound Gorilla
The reason the math works out that way, is that fiscal decisions have larger effects on wealth concentration than central banks. Central banks facilitate fiscal policies, but are only one variable involved in a much more complicated set of policies.
A large function of QE money creation is to monetize government deficits. Without exception, as governments start getting upwards of 90-100% debt/GDP ratios (often less), their central bank starts creating new bank reserves to buy and hold large percentages of their government debt. That way, government bonds don’t start crowding out the private sector.
Where government money is taxed and spent affects wealth concentration, and central banks at this stage become a significant financier of the deficits, but they don’t direct where those deficits are spent.
For starters, Japan, Euro Area countries, and the UK all spend a lower percentage of their GDP on the military, because they are not responsible for global naval control like the United States has been for 80 years now. And without exception, each other country on that previous Credit Suisse wealth concentration table has a lower level of healthcare spending per capita, but a longer average lifespan, than the United States.
So, American consumers, businesses, and taxpayers are spending quite a bit of money on healthcare and military, without better health results, and without lower levels of terrorism domestically.
And as I wrote about in my article about the petrodollar system, the United States has basically hollowed-out its industrial base in order to maintain its status as the global reserve currency. By making deals with OPEC since the 1970s to ensure that the rest of the world needs dollars to buy oil (the only currency OPEC countries will sell oil in, due to our agreements), we put the dollar in high demand internationally, which artificially strengthened the dollar above its balance-of-trade value, and made our exports less competitive and increased our import power, which led to structural trade deficits. Or as the Financial Times once described it, the US gave itself Dutch Disease.
Here’s how I’ve described it on Twitter:
For the upside, this gave the United States the ability to sanction countries by cutting off their supply of dollars, and made it so that we could buy oil and commodities with our own fiat money. This extended our military reach around the world and made international military bases more affordable.
As a result, the United States has hundreds of foreign military bases in dozens of countries. Out of all foreign military bases in the world (instances where a country has a military base in a different country), >80% of those are of the United States, and the other <20% are of all other countries combined.
Japan and the Euro Area didn’t do that; they have balanced or surplus trade situations in general, and don’t have a lot of foreign military bases or ability to unilaterally sanction other countries. But their median citizen has more wealth than the median American citizen has.
When you run structural trade deficits for a long time, eventually you reduce your net international investment position or “NIIP”. A country with a positive NIIP owns more foreign assets than foreigners own of their domestic assets (stocks, bonds, real estate, etc) and is a creditor nation, and a country with a negative NIIP owns fewer foreign assets than foreigners own of their domestic assets and is a debtor nation. Here’s what happened to the US NIIP since the 1970s:
So ironically, the US has military bases all over the world, but the rest of the world increasingly owns large percentages of US capital assets such as our companies, our bonds, our real estate, and our land. We’re selling our productive domestic assets to maintain our global reach and dollar hegemony.
The US can sanction any country, and has military bases all over the world, but the foreign sector (including some of the countries the US specifically maintains military bases against) own larger and larger parts of our productive assets base as they use their dollar trade surpluses to buy US assets.
This 45-year period has been great for rich and upper-middle class people working in finance, healthcare, government, or technology (including me), since they had all the benefits of this set of policies (more global consumer spending power and influence) without the drawbacks (lower domestic manufacturing wages and lost jobs to overseas competitors).
However, for people in blue collar work, especially manufacturing jobs as well as service workers in previously manufacturing-heavy areas (eg restaurants and similar retail shops that served manufacturing towns), this system did give them some consumer power, but then suppressed their wages and shifted their jobs to cheaper foreign markets at a faster pace than what happened with foreign developed market peer nations, meaning the costs outweighed the benefits for that large blue collar group. Their taxes then went to paying for military adventurism that they personally didn’t benefit from, while the adversaries of the US were easily able to undercut US goods prices and continue taking manufacturing market share, with the US protecting the global shipping lanes for them.
This policy encouraged, directly or indirectly, corporations to disconnect labor productivity from labor costs, thanks to geographic arbitrage. You could fire your expensive domestic workers and hire cheap workers abroad. The United States then heavily financialized itself, not just in terms of leverage (all advanced nations are quite leveraged), but in terms of how large our stock market is relative to the size of our economy. We export dollars to import depreciating consumer goods. Foreign investors take those dollars and buy up our appreciating capital assets such as government debt, corporate debt, corporate equity, real estate, and various land. That leads to our deeper and deeper negative net international investment position, as a debtor nation.
CEO pay in the United States expanded dramatically relative to worker pay, in part because the stock market became so large relative to GDP. Most other countries haven’t had this level of CEO-to-worker difference.
The Economic Policy Institute (EPI) estimates that CEO compensation has grown 1,322% since 1978, while typical worker compensation has risen just 18%. In 2020, CEOs of the top 350 firms in the U.S. made $24.2 million, on average — 351 times more than a typical worker.
–CNBC, September 15, 2021
In addition, we kept lowering the effective corporate tax rate. The red line in this chart is the effective federal corporate tax rate (which is different than the headline number), and the blue line includes both federal and state taxes:
Chart Source: St. Louis Fed
Meanwhile, payroll taxes (which unlike corporate taxes are paid per employee) went up and remained elevated, which put pressure on workers and labor-intensive businesses:
Data Source: Tax Policy Center
Even as those payroll taxes flattened out, per-capita healthcare costs kept rising, which pressured people who need to buy their own insurance, and pressured employers with labor-intensive businesses that hire a lot of people:
Chart Source: St. Louis Fed
Overall, through our tax and overall fiscal policy, the US prioritized labor-light industries such as software and finance, rather than labor-heavy businesses like manufacturing. If you’re a software company, you got all the benefits of lower corporate tax rates without being too heavily affected by the rising payroll taxes and increasingly expensive employee healthcare plans. If you’re a manufacturing company with a high headcount, you did get some benefits of the lower corporate taxes rates as well, but rising payroll taxes and healthcare costs have been a massive and growing burden.
It’s not surprising, then, that the S&P 500 has become dominated by tech and communication platforms, and we’ve hollowed out our manufacturing capability more than most peer nations. As Charlie Munger has said, “show me the incentives and I’ll show you the outcome”. When investing, we need to look for signs of continuation or reversal of those policies.
Naturally, technology and automation also added a lot to this issue, but we can see that it didn’t happen to all countries equally, or even close. Every advanced nation adopted automation technologies and outsourced some of the low value-add work to developing nations over the past several decades, such as textiles and other things, but most of them kept their precision manufacturing and other valuable aspects of their industrial base, to a greater percentage of GDP than the United States. And they didn’t have the large disconnect between worker wages and worker productivity as the US did.
In other words, the United States sacrificed a portion of its domestic vibrancy, particularly the blue collar portion, in order to have more geopolitical reach and to benefit those towards the top of the income hierarchy. And that has been a policy that has persisted through red and blue presidential administrations, but for the past several years is starting to run into headwinds. In other words, it’s political but it’s not particularly partisan.
Plus, throughout the 2007-2009 subprime mortgage crisis, fiscal authorities bailed out bankers far more than homeowners. The 2008 Troubled Asset Relief Program or “TARP”, passed by a combination of Democrat-controlled Congress and Republican president George Bush, helped backstop the financial system with taxpayer funds. As the dust settled on that whole era, many homeowners who made bad decisions were wiped out financially, while most bankers who made bogus financial products did not have their lucrative bonuses clawed back, and a number of bank CEOs (of banks that received federal support and nearly collapsed) retired with golden parachutes worth tens of millions of dollars.
Long story short, that’s all primarily a set of fiscal and geopolitical decisions by the Legislative Branch and Executive Branch; not monetary decisions by the Federal Reserve.
The Fed Pumping the Debt Up
Now let’s circle back to the Fed. As this article has shown, their policies are not necessarily at the center of this as many believe. But are they playing a secondary role?
The short answer is yes, but let’s look at the details.
In older models of banking, there was no central authority to set interest rates. They were set by market forces between various private entities.
In the period of modern central banking, central banks constantly override market forces to set short-term interest rates. In other words, there are persistent price controls on the price of money itself, with the aim to manage the growth of the economy in a partially top-down way.
A summary argument from the pro-central banking side is that it’s a necessary function to smooth economic contractions as a lender of last resort. The government and central bank should, in their view, provide counter-cyclical fiscal and monetary support when the private market is weak. In other words, when labor and industrial resources are underutilized, government institutions should use that opportunity to ease lending standards and perform stimulus to make use of those idled resources and get the economy up and running again. The best time to print money and spur growth is when there is excess capacity and thus a lack of resource constraints, because that’s when appropriately-sized stimulus is least likely to cause price inflation.
A summary argument from the anti-central banking side is that this is like unsuccessfully playing God- trying and failing to eliminate the inherently cyclical aspect of humans and the rest of nature. By constantly intervening in the economy and the price of money, the central bank blows up asset bubbles and promotes malinvestment by not allowing market forces to clear out bad leverage on their own. In their view, for every big bust that the central bank and government “saved” the economy from, they also contributed to that popped bubble forming years earlier in the first place. Recessions are like forest fires, clearing out waste from time to time. To prevent or delay them is short-term thinking, and comes back in a massive crash later as a result of all the pent-up malinvestment coming to a crisis at once. The price of any good or service serves as a market signal, and to cover up that signal is to distort market forces.
Over the past several business cycles, whenever there is an economic slowdown and period of deleveraging, the Federal Reserve cuts interest rates, which encourages more debt borrowing, and supports higher asset prices via lower discount rates.
The problem, however, is that as debt as a percentage of GDP gets higher and higher, interest rates have to be lower and lower to keep it all sustainable. And as interest rates go lower and lower, it makes it easier to accumulate large amounts of leverage (since debt serving costs are so low), which results in higher debt-to-GDP ratios and more financialization and fragility within the economy, and forces policymakers to keep lowering rates. It becomes a vicious cycle, and eventually the Fed helps blow a bubble so large that they themselves are trapped under it, unable to raise rates for fear of bringing the whole thing down.
Arguably where central banking started to truly go off-the-rails in the US, was the during the 1998 collapse of Long-Term Capital Management. The Asian Financial Crisis of 1997 and the Russian Financial Crisis of 1998 resulted in the insolvency of the US hedge fund LTCM due to bad bets, and that was big enough, with enough creditors across Wall Street, that it would have caused significant financial damage across the system if it were to collapse in a disorderly way. The Federal Reserve organized banks to perform a bailout/controlled-liquidation of the fund, but rather than just ring-fencing that problem, they also cut interest rates, which is often cited as fueling the final leg of the Dotcom bubble from 1998 to 2000.
Chart Source: St. Louis Fed
When the Fed cut rates in 1998, there was no employment problem. The unemployment rate was at a multi-decade low and still getting lower. Alan Greenspan, the chair of the Fed from 1987 to 2006, was well-known to closely follow financial market performance unlike his predecessors. Essentially, the rate cut in 1998 was for Wall Street and financial markets more broadly, rather than Main Street.
That was a structural turning point about priorities.
Years later, when the Dotcom Bubble blew up in 2000, Greenspan’s Fed began cutting interest rates again, and brought them down to below 2% by the end of 2001 and all the way down to 1% in 2003. This extremely low interest rate environment compared to prior decades ended up fueling part of the housing bubble that eventually spiraled into the 2007-2009 subprime mortgage crisis.
Among various other developments, many consumers were offered adjustable rates mortgages throughout the early 2000s, so they happily bought homes with debt when interest rates were at multi-decade lows. The Fed then quickly increased interest rates starting in 2004 to deal with inflation, all the way to 5.25% by 2006, which increased the cost of debt for these homeowners and was a key catalyst in the housing market blowing up. Some of that leverage only existed due to the Fed’s period of unusually low interest rates.
In 2008 when the subprime mortgage crisis collapsed and triggered the global financial crisis, the Fed dramatically increased the monetary base. It’s important to note, this did not hand banks money; the Fed created new money, and bought Treasuries from banks. It added bank reserves to the whole system, but from the perspective of any particular bank, it was just an asset swap rather than the gift that went into their capital. Separately, banks did receive varying amounts of gifts from Congress, as they passed the 2008 Troubled Asset Relief Program to bail them out from bad bets, but to emphasize the distinction, that was another fiscal decision from the Legislative and Executive branches of government, rather than monetary policy from the Fed.
Fast forward to 2018, the Fed tried to tighten monetary policy. They raised interest rates and began reducing the size of their balance sheet. However, the system was so indebted by that point that even raising rates to 2.5% and selling some Treasuries resulted in a big market correction, and more concerningly, a freeze in non-investment grade credit markets. By 2019, their ongoing reduction in their balance sheet led to the September 2019 repo spike, which briefly broke the financial system and forced the Fed to begin buying T-bills to effectively monetize US fiscal deficits. By that point, any semblance of independence was gone; the Fed was clearly a monetizer of fiscal deficits to those who were paying attention.
During the 2020 crisis, the US Treasury and the Fed worked together to support the corporate bond market. Normally, the Fed can only purchase nominally risk-free assets like Treasuries and mortgage-backed securities, but funding from Congress in 2020, along with a special purpose vehicle between the Treasury and the Fed, allowed the Fed to buy corporate bonds to keep the yields low. This was another example of fiscal decisions from the Legislative and Executive branches; not just monetary decisions, impacting wealth concentration. They didn’t even need to buy that many bonds; merely the knowledge that the Fed can and would buy corporate bonds as needed, and that corporate bond rates will be maintained by the government at politically expedient levels, was enough to push them back down.
But it’s much easier and faster, logistically, to support public securities and bank loans to large corporations, than to support bank loans to small businesses and consumers. That’s the Cantillon Effect in action. For many years now, banks have been reticent to lend to small businesses, with rather tight credit standards, while financial markets happily buy corporate junk bonds with interest rates below the prevailing inflation rate, because they know if things get bad enough, the Treasury and Fed will likely bail that market out.
In other words, it’s far easier and cheaper to get funding if you’re a large enterprise, even if you’re junk-rated. This is partly from the Fed and Treasury’s influence on those large capital markets. The ability of large companies to get cheaper financing than small private businesses is a contributor to wealth concentration, and is influenced by the combination of the Fed and the Treasury.
Meanwhile, credit card interest rates for consumers have averaged about 15% for the past 25 years. Even as short-term interest rates set by the Fed went from over 5% to 0% during that time, the average credit card rate hasn’t really moved down at all. Basically, the wealthier you are or the larger you are as a company, the easier and cheaper it is to get financing. If you’re poorer, and using payday loans or credit card debt, this lower interest rate environment is not actually reducing your interest rate.
As a cherry on top, a number of Fed officials were found out to have been actively trading securities during 2020. In many cases, they were trading the same or similar types of securities as what the Fed was buying, which is a conflict of interest.
For civil servants, there are tight restrictions on securities related to your field. For example, middle-class engineers working for the Federal Aviation Administration are not allowed to own stocks of airline companies or aircraft manufacturers, even if their work has nothing to do with airline inspection or anything like that. However, multi-millionaire politicians and Fed officials haven’t had such limitations. Many representatives, senators, and heads of the Fed have actively traded securities that they personally have the ability to influence through policy decisions, and that they often have information on before the information is public. So ironically, the greater influence that civil servants have, the fewer financial restrictions they have.
Overall, what can be summarized here is that the Fed, especially under Greenspan in the 1990s and 2000s, helped blow up a giant bubble. When the Fed cut interest rates in the late 1990s, even though unemployment was low, it was aimed at Wall Street and asset prices. And then when a recession occurred in the aftermath of that dotcom-bubble in the early 2000s, the Fed cut interest rates to 1% and helped plant the seeds for the subprime mortgage crisis. Once they got that far, debt was high enough that future heads of the Fed had no way to get out of it. And ultimately, the big things starting in the 2008 crisis and repeating in the 2020 crisis, were fiscal decisions led by Congress and the President, rather than the Fed.
The Realty: It’s Complicated
When asked why the US has increasing wealth concentration, nobody wants this answer:
Wealth pendulums historically have multi-decade swings until they reach unsustainable levels of cronyism. Back in the 1970s, wealth concentration was low and organized labor had a lot of power to the point of corruption and cronyism, but that started to be broken up in the 1980s.
On the fiscal side, tax changes from then on increasingly began favoring corporations and the wealthy, and the US in particular outsourced large swaths of its industrial base and financial assets to other countries, by members of both political parties, to maintain its reserve currency status in favor of the corporate and political elite, which put additional downward pressure on blue collar jobs and wages. Higher education became more necessary and more expensive, while the US reached the highest per-capita healthcare costs in the world, which the public and their employers have to finance. Trillions of dollars were spent on foreign wars without clear victories, other than benefiting the military industrial complex (again favoring the corporate and political elite rather than the middle class) that President Eisenhower warned us about in the 1950s. Overall, across sectors, the pendulum has swung far in favor of corporate cronyism.
On the monetary side, starting in the late 1980s, Fed Chairman Greenspan interpreted a new role of the Fed to informally keep asset prices elevated, and often lowered interest rates in order to boost stocks or real estate, which promoted debt accumulation and bubbles. Basically, the Fed continually sacrificed long-term economic sustainability in order to reduce short-term volatility, by always promoting more and more credit growth. The consequences of that, along with the aforementioned fiscal decisions, piled up over decades, and favored high asset prices over robust economic growth. Now with public and private debt so high, and interest rates at zero, the Fed finds its tools increasingly limited, and finds itself increasingly obligated to finance government deficits via new base money creation, and doesn’t have a clear plan out over than financial repression (keeping interest rates below the inflation rate for a prolonged period of time).
A number of combined fiscal and monetary policies have enabled policymakers to bail out bankers more effectively than homeowners, and to keep rates very low for large enterprises, while doing little for making affordable credit more available for consumers or small businesses. This widening availability and cost of funding has also fueled wealth concentration, because when millionaires and billionaires (again, the elite) can borrow at rates that are near or below the prevailing inflation rate, they have a much easier time compounding wealth. It’s also easier for large and well-capitalized companies with access to public financing to get through pandemic lockdown mandates than small businesses with no access to public financing.
On top of all of this, simply from the private sector, information technology (Moore’s law, software, and automation in general) allows certain products and services to scale globally with less labor input than was the case historically, meaning that the financial rewards tend to be concentrated into fewer hands that control the technology, even as the broad public also benefits from the products and services.
Overall, I’d say the Fed is the secondary cause of wealth concentration, with fiscal policy being the primary cause of it. Very different fiscal policy is also what makes various countries very different from each other in terms of their level of wealth concentration, even though all of their central banks are acting similarly to each other. When push comes to shove during market extremes, monetary policy becomes subservient to fiscal policy anyway, and simply enables it.
That sort of summary is too complicated, and it implicates both major political parties as well as the Fed and corporations with a bunch of moving parts and individual decisions over decades until it became locked in. (Although if you do want a partisan Democrat vs Republican comparison, I have an article on that too.)
Instead, people typically prefer simple narratives and someone clear to blame. A much more satisfying answer is:
It’s the Fed’s fault. Bunch of unelected crooks!
Investment Positioning
My base case continues to be that fiscal and monetary policy makers have squeezed most of the juice that they can out of this 40-to-50 year structural trend.
They drove rates all the way to zero, structured the global monetary system for the foreign sector to sell depreciating consumer goods to the US and use those dollar surpluses to buy up our appreciating financial assets in return (thus pulling as much global capital into our equity markets as possible, which props up the top 10% wealth effect and government tax receipts, but sells out our productive asset base), and pushed things as far as they could until domestic populism started to rise in response to all of this wealth concentration.
Now, the world is facing real labor shortages, rising wage pressures, partial de-globalization, and commodity scarcity. With so much debt in the system, the Fed and other developed market central banks are pretty much stuck with low interest rates even as inflation runs hot. These deeply negative inflation-adjusted interest rates tend to favor hard assets.
In this environment, and probably extending through much of the 2020s, I tilt my portfolios towards assets like commodity producers, value and growth-at-a-reasonable-price stocks, real estate, global stocks, precious metals, and bitcoin, in order to position against depreciating currency and in favor of finite assets.