Benson's Economic & Market Trends
The Federal Reserve's policy: Punish Savers and Rob the Retired
February 23, 2004
Before the Alan Greenspan model of economic growth which relies on creating rising asset prices in stocks, bonds and housing to fuel spending, our economy ran on a traditional and conservative model. The old model relied on paying savers a real rate of return to forgo consumption so that precious capital could be made available for investment.
The new model punishes savers and guarantees they will receive a rate of interest far below the inflation rate on cash, bonds or stocks. This rate of interest does not adequately compensate savers for the risk of default or loss. Moreover, capital will be provided for investment but not through recycling savings. Instead, capital will be provided by creating new money and credit. This creation of new money and credit defines inflation and favors debtors over creditors.
A major part of the new Fed economic model is designed to use savings to subsidize corporate profits. Psychologically, high stock prices make people feel so successful that they don't feel the need to save when so much wealth is freely created by just owning stocks.
Currently, 30% of the valuation of the S&P 500 is dominated by finance companies, and another 10% of corporate profits are related to financing activities. (For example, if GM did not own GMAC it would not have made any profits last year; 40% of GE's profits are from finance.) So, in today's world of leveraged finance, 40% of corporate profits are created by making sure savers only get 0.5% on their Money Market accounts and then get to borrow their own money back to mortgage their house or finance their credit card balance.
Getting 0.5% on your bank balance, paying 4%-6% on a mortgage and 12%-18% on a credit card, is great for bank profits!
Worse yet, at least another 15% - 20% of the increase in corporate profits come from the falling dollar. Any American traveling to Europe and elsewhere abroad this spring and summer will notice how savers are being punished!
In the old days, finance company profits were only 12% or, at most, 15% of corporate profits. Now, with financing 40% of corporate profits and dollar devaluation another 15%, how can the Fed ever firm without wiping out the stock market?
It is no surprise, then, that savers and retirees on fixed incomes are in a world of pain. The Federal Reserve's clear policy is to make them pay for the economic recovery. In the 4th quarter of 2003, personal interest income alone was falling at a $30 Billion annual rate! Savers and retirees are being punished so that Fannie Mae can make record profits. Moreover, principals at major Wall Street firms and hedge funds using leveraged finance as their business model, can once again trade up on their mansions in the Hampton's this summer.
A central bank running a "weak currency" and "negative real interest rate" policy is simply standard operating policy and one where intelligent investors, who know the game, can take defensive action. Unfortunately, for savers and retired workers on fixed income, it looks like the declining dollar, which has already fallen 50%, has further to go because there still has been no drop against China as of yet.
After listening to Greenspan's testimony to Congress recently, if the Fed tightens after the presidential election, they will not make the "real interest rate "positive, but only neutral. (The real interest rate is the interest rate minus the inflation rate " or, your "real return".) Robbing savers could go on for years! Deciding how to invest is not easy because not only are the stock, bond and housing markets artificially inflated in price, but, at some point, world central bank money growth may not be able to prevent violent market corrections.