Happy New Year! I hope you had a wonderful holiday season and are looking forward to 2022 with great hope. No doubt the word “challenging” has seen its day in the sun for the past two years, but we all still have so much to be grateful for and so much to look forward to.
As the year kicks off, many of us are in the habit of resolving to do something new in the months ahead. Fixing something, changing something, eliminating something. With that in mind, it’s ironic that today I’m going to write about something I feel powerless to fix on my own. I hope you’ll indulge me on this one as I explore a topic that has been gnawing at me for quite some time, and one I do believe we need to collectively address. This piece will likely be longer than most as I did some “light” reading over the holidays, but stick with it, as I hope it stimulates some thoughts and conversations as we head into the New Year.
I have written about the Federal Reserve (the FED) many times over the years and have had countless more conversations about the same subject. Before I get started, you know my stance on the FED and what I think their policies have produced over time. During my light reading, I finally came across someone who agrees with my view of the harm their policies can and have contributed to. He is former Kansas City FED President Thomas Hoenig.
In case you were wondering what crackpot publication I was reading, it was Politico. See article here. Not exactly a bastion of conservative financial thinking. At the same time, I ran across an article from Teen Vogue (don’t ask, all I can say is the internet takes me in interesting directions), arguing that Billionaires should not exist. See the article here if you are interested in reading it.
What in the world do these two articles from two disparate publications have to do with one another? Through my amazing use of the English language and hopefully sound reasoning, I will attempt to cohesively link these two articles and, at the same time, leave some questions on the table for society (or least the couple hundred that read this) to decide how things should be handled.
Before I get into their arguments, I will briefly bring in one more character to the story. That is Richard Fisher, who is also referenced in the Politico article. Like Hoeing, Fisher is a past President of the Federal Reserve, with his post being in Dallas. He was also a voting member of the FOMC (Federal Open Market Committee).
As I have said before, the FED seems to react to economic news rather than proactively setting policy and giving it time to work. I understand that, at times, policy may have to be set based on an unforeseen pandemic. However, not every crisis is a pandemic. Regardless, every recession/bubble seems to be caused from policies the FED instituted. And yes, there is an important difference between correlation and causation. I am convinced causation is the apt descriptor here.
A few years ago, BC (before COVID), Jeff and I were at a conference in Dallas where Richard Fisher was the keynote speaker. It was clear that he was no friend of zero interest rates forever and if it were up to him, the economy would have come off the stimulus sooner than the FED eventually did following the Great Recession. Perhaps many years before. That’s called being a ‘Hawk’.
Thomas Hoenig, also considered a ‘Hawk,’ believed that leaving rates at zero and flooding the economy with trillions of dollars of cash would eventually lead to bad outcomes. Below is a quote from the Politico article.
And there’s our entre into whether Billionaires should be allowed to exist. But before we go there, can we all agree that the disparity between the ultra-rich and the poor has rarely been this wide?Can we further agree that it is hard to justify in most circumstances that CEOs deserve to make 351 times as much as the typical worker (in 2020)? Up from 309 times in 2019 I might add. Are some CEOs better than others? Do they deserve more pay than the bad ones? Should they be compensated well for their leadership? Absolutely to all three! Is 351x the right number? As a shareholder, that should be something to think about.
For this exercise, I’m only talking about CEOs brought in to run the business, not the entrepreneur that started the business. Is Steve Jobs or Bill Gates or Jeff Bezos worth more than their replacements? I would certainly argue yes! But most of their money (if successful) comes from ownership in the company they started, not from any ongoing compensation. A company, I might add, that started from nothing more than an idea, and through tremendous effort and risk (and certainly some luck), turned into a successful business – one that not only enriched the founder, but enriched society through a new and better product or service. Below is the garage that Hewlett-Packard started their business in. The other companies listed above started in similar fashion.
Many of you are or were business owners and were successful (otherwise you wouldn’t have money to invest). You know that there were many obstacles, government regulations, and competitors trying to knock you down. We know that roughly 50% of businesses fail within five years and only 30% are still going at the end of 10 years. That’s a steep failure rate. So, what we really see is what is called ‘survivorship bias.’ Those businesses that survive and thrive after 10 years are the beneficiaries of survivorship bias. They, by the mere fact that they are still in business, have succeeded and therefore the owners are more likely to be “wealthy” than the business owners that “failed.” Now of course, those “failures” could, and likely did, teach that entrepreneur things not to do or how to make their next business more durable. So, failure is many times a teaching instrument. But for now, can we agree that starting a business is not easy and requires a tremendous amount of risk?
If that’s the case, is it fair to say that those business owners that are successful should be able to reap the benefits of their hard work and luck? If we can agree with this premise, then the only thing left to debate is how successful are they allowed to be? Is 20% more successful than others reasonable and sufficient? Or do we allow them to be as successful as they can, reaping whatever benefits their efforts yield, as compensation for all that hard work and effort? Is that reasonable?
But what if that success means billions of cellular phones and revolutionizing telecommunications and the way the world accesses data. That would likely make that owner (or owners) a Billionaire. What if some really smart scientist really did find the cure for cancer? Should they benefit from the years of training, research, and frankly lots of failures on the way to success? What’s that success worth? Think about all the lives that cure would save, and the value added to society in very real ways. That scientist would likely become a billionaire many times over. But wait, it’s not really fair that the scientist is a Billionaire. Ok, so what is fair? $500 million? $100 million? $10 million?
Here is an excerpt from Rebekka’s article in Teen Vogue:
It’s really a question of whether anyone can ever be “self-made,” or whether this is the language of a larger myth that justifies wealth inequality. The self-made myth conceals the multitude of barriers to wealth accumulation and reinforces the notion that if you’re poor, it’s because you’re lazy or made bad choices. The notion that a billionaire has worked hard for every penny of their wealth is simply fanciful.
So, let’s take a look at this quote. As we’ve already said, there are a lot of barriers to success, so yes, we can agree that building wealth is hard. And yes, some people are poor because they are lazy or made bad choices, but there are also many other reasons why someone might be “poor” (a relative term that is not actually defined in her piece). But it does bring up an interesting question. Should we all have equal outcomes or equal opportunities? And if we have equal outcomes, whose outcome do we use? Should everyone be as good looking as Brad Pitt? Should everyone be as rich as Jeff Bezos? Do we even want to be?
Don’t get me wrong, I understand that there are challenges for many in our country, some of which we should collectively address. But in addressing them, is more money and more resources always going to be the answer? I would argue our foremost imperative is ensuring truly equal opportunity. Ah ha, maybe I did find a suitable New Year’s resolution – to do my part in ensuring equal opportunity for all. I certainly think we as a country should collectively be striving towards this. We must already do something right, as every day someone comes to the United States knowing it is the best place to find success and “live the American Dream.” But an imperfect union of imperfect people probably doesn’t do it perfectly, so let’s keep striving.
It’s been argued that Universal Basic Income, Guaranteed Minimum Income, and Universal Basic Services could aid prosperity in a world grappling with growing populations, societal aging, and climate breakdown. Piecemeal proposals are not enough to remedy a crisis of poverty in the midst of plenty. And a fair world would not further the acceleration of either.
Ayres ends her piece with the above statement. Her answer is not only to just pay people for being here (Universal Basic Income). In her view, that only helps. Even a “fair” world would not make things right. So, the answer must be to go beyond what’s fair to make things right.
So, I go back and ask you, how much is enough? What is right? Should business owners who risked their capital, spent endless nights worrying about how bills were going to be paid, where the next sale was going to come from, should they limit their upside in the event that they happen to run one of the three in 10 businesses that actually survive 10 years? How many business owners didn’t get paid during 2008, while they were trying to keep the doors open and pay their employees? How many were doing everything they could to keep their employees on the payroll during COVID, oftentimes racking up debts just to keep things going? And sometimes that still wasn’t enough and they lost everything.
Bringing things back full circle, let’s go back to Thomas Hoenig. Recall what he said above about low interest rates allowing financial engineering that didn’t benefit most people. Wait a minute, I thought the FED lowered rates to help everyone? As it turns out, interest rates and monetary policy are a very blunt instrument and really don’t help those that are most in need of help. So, who do they help? “Quantitative easing stoked asset prices, which primarily benefited the very rich. By making money so cheap and available, it also encouraged riskier lending and financial engineering tactics like debt-fueled stock buybacks and mergers, which did virtually nothing to improve the lot of millions of people who earned a living through paychecks.”
Like most politicians, they say one thing to get a vote, all the while knowing that the policies they back only help the rich, who then help fund their next campaign.
He finished with this.
Let’s look at those booming asset values that he referenced. One of the biggest beneficiaries of the pandemic – Amazon. It’s up roughly 100% since the lows of pandemic-induced bear market.
Housing prices are up 28% nationally since the start of the pandemic.
Used car prices up almost 100% since the pandemic.
And what happens when the FED has to finally pull the stimulus and raise interest rates? We’ve talked about that in the past – housing prices come down, stock prices come down, car prices come down, all risk assets come down in price…yikes, maybe even Bitcoin.
But don’t fear, just like every other time in the last 30 years, the FED will raise rates and cause a recession, followed by cutting rates to create the next price increase. Meanwhile, those on the lower end of the economic spectrum will get no benefit from it and more than likely they will end up losing a good job because of the recession the FED caused, or will see recent wage growth stagnate, giving up much needed gains that help them afford an ever-increasing cost of living.
When interest rates go up savers get paid more, but companies and governments pay more. A stretched budget, then add on a few hundred billion dollars in interest expense…how’s that UBI working out now? How about those zombie companies that are still around solely because interest rates are so low that their cost of capital keeps them in the game? That still doesn’t help if you’re running a business that is not innovating and keeping up with the times.
I think I’m done for now. I don’t have many of the answers, but I think what needs to happen is we need to start conversations that don’t turn into a battle of who’s right and who’s wrong. Somehow, we need to figure out how to compromise for the betterment of the whole country. We may never agree on what the right outcome is, so perhaps we shift to working towards the right opportunity. I have seen countless times the fruits of granting people the agency to chart their own path. Let’s just make sure we all have a chance to even get on that path (we are falling short). This economy is not (and has not been) working for the majority of people and that needs to change. Frustrations will only get worse. Those with nothing to lose will act like they have nothing to lose and will act out against those who have what they want, be it people or government. Or those of us “wealthy” people who own homes, stocks, cars that have gone up so much because of FED policies over the last 30 years can continue to look the other way or fight against changes that would mean a sacrifice to what we now hold dear. We just shouldn’t be surprised when we get the knock on the door.
Higher interest rates that will lower asset prices will cause much pain, but do we keep doing the same thing and expecting different results? The wealthy get wealthier, the poor get poorer. More people with nothing to lose. I think that’s the definition of insanity. From a portfolio perspective, we would like to have assets in the portfolio that counteract a downward movement in stocks to reduce volatility. Without higher bond yields, that is not currently possible.
Finally, I’m not trying to pick a fight with anyone. I certainly don’t know the answers to many of these questions, but we can’t find answers unless we can come together to have an honest discussion, even if you agree to disagree at the end. But not coming out of our respective corners isn’t going to solve anything and listening to talking heads that agree with us doesn’t help us see that there might be ideas from a different perspective that might be worthwhile.
I hope everyone continues to be safe and healthy. Have a good week and a great year ahead.