Fed Critics Say ’10 Letter Warning Inflation Still RightCaleb Melby, Laura Marcinek and Danielle Burger
Signatories of a letter sent to then-Federal Reserve Chairman Ben S. Bernanke in 2010 warning of the risks associated with the bank’s policy of quantitative easing are standing by their claims -- even as the biggest U.S. companies are flourishing, inflation is muted and holding Treasuries has been one of the best trades out there.
The Nov. 15, 2010, letter signed by academics, economists and money managers warned that the Federal Reserve’s strategy of buying bonds and other securities to reduce interest rates risked “currency debasement and inflation” and could “distort financial markets.” They also said it wouldn’t achieve the Fed’s objective of promoting employment.
Four years later, members of the group, which includes Seth Klarman of Baupost Group LLC and billionaire Paul Singer of Elliott Management Corp., are facing a different economy. U.S. companies now boast low debt, big cash piles and record profits. They’re creating jobs at the fastest average pace since 2005 and unemployment has dropped to 6.1 percent from 9.8 percent when they wrote the letter. The recovery has underpinned an almost 200 percent gain in the Standard & Poor’s 500 Index since March 9, 2009.
Bloomberg News interviewed nine of the 23 signatories, and all of those who commented stood by the letter’s contents. Here’s what they said:
Jim Grant, publisher of Grant’s Interest Rate Observer, in a phone interview:
“People say, you guys are all wrong because you predicted inflation and it hasn’t happened. I think there’s plenty of inflation -- not at the checkout counter, necessarily, but on Wall Street.”
“The S&P 500 might be covering its fixed charges better, it might be earning more Ebitda, but that’s at the expense of other things, including the people who saved all their lives and are now earning nothing on their savings.”
“That to me is the principal distortion, is the distortion of the credit markets. The central bankers have in deeds, if not exactly in words -- although I think there have been some words as well -- have prodded people into riskier assets than they would have had to purchase in the absence of these great gusts of credit creation from the central banks. It’s the question of suitability.”
John Taylor, professor of economics at Stanford University, in a phone interview:
“The letter mentioned several things -- the risk of inflation, employment, it would destroy financial markets, complicate the Fed’s effort to normalize monetary police -- and all have happened.”
“This is the slowest recovery we’ve ever had. Working-age employment is lower now than at the end of the recession.”
“Where is the evidence that it worked? It’s just not there.”
Douglas Holtz-Eakin, a former director of the Congressional Budget Office, in a phone interview:
“The clever thing forecasters do is never give a number and a date. They are going to generate an uptick in core inflation. They are going to go above 2 percent. I don’t know when, but they will.”
Niall Ferguson, Harvard University historian and author of “The Ascent of Money: A Financial History of the World,” referred Bloomberg News to a blog post he wrote in December 2013, saying his thoughts haven’t changed:
“Though generally regarded by a cause for celebration (even by those commentators who otherwise lament increasing inequality), this bull market has been accompanied by significant financial market distortions, just as we foresaw.”
“Note that word ‘risk.’ And note the absence of a date. There is in fact still a risk of currency debasement and inflation.”
David Malpass, former deputy assistant Treasury secretary, in a phone interview:
“The letter was correct as stated.”
“I’ve observed that credit is flowing heavily to well-established borrowers. This has worsened income inequality and asset inequality going on in the economy. You’re looking at the companies that got credit. The problem is the new businesses that didn’t get credit. The facts are that private sector credit growth has been slow. It is a zero sum process where each corporate bond issue was money that otherwise might have gone to a new business or a small business.”
Amity Shlaes, chairman of the Calvin Coolidge Memorial Foundation, wrote in an e-mail:
“Inflation could come, and many of us are concerned that the nation is not prepared.”
“The rule with inflation is ‘first do no harm.’ So you always want to be careful.”
Peter Wallison, senior fellow at the American Enterprise Institute, in a phone interview:
“All of us, I think, who signed the letter have never seen anything like what’s happened here.”
“This recovery we’ve had since the end of 2009 has been by far the slowest we’ve had in the last 50 years.”
Geoffrey Wood, a professor emeritus at City University London’s Cass School of Business, in a phone interview:
“I think everything has panned out. We should probably be more cautious about the timing. Economists should always be cautious about the timing. Timing is close to totally unpredictable.”
“The economy is growing. If the Fed doesn’t ease money growth into it, inflation could arrive.”
Richard Bove, an analyst at Rafferty Capital Markets LLC, in a phone interview:
“If interest rates are low, it means a large portion of the population was made poor because passive income declined.”
“If you take a look at the economy, I think that the economy has grown in line with the growth in population and the growth in income. I would argue that the bulk of this QE money never reached the economy.”
“Someone’s got to prove to me that inflation did not increase in the areas where the Fed put the money. We know where they put the money. And we know where they put the money prices went up dramatically. And we also know the consumer price index does not pick up either of those price increases. Housing prices are not in the CPI and fixed income prices are not in the CPI. So how do you know that QE benefited the economy?”
Ashley Bowles, a spokeswoman for Cliff Asness’s AQR Capital Management LLC at Edelman, declined to comment.
Michael Boskin, a professor of economics at Stanford University, didn’t immediately respond to messages seeking comment.
Charles Calomiris, a professor at Columbia Business School, was traveling and unavailable for comment, according to a spokesman.
Jim Chanos, founder of Kynikos Associates LP, didn’t return a phone call or an e-mail requesting comment.
John Cogan, a public policy professor at Stanford University, didn’t respond to an e-mail seeking comment or a phone call to a spokeswoman.
Nicole Gelinas, a senior fellow at the Manhattan Institute for Policy Research, didn’t respond to an e-mail seeking comment or a phone call to a spokesman.
Phone calls placed and an e-mail sent to Kevin A. Hassett, director of economic policy studies at the American Enterprise Institute, weren’t returned.
Roger Hertog, chairman emeritus of the Manhattan Institute for Policy Research, declined to comment.
Gregory Hess, president of Wabash College, didn’t immediately return a call for comment.
Diana DeSocio, a spokeswoman at Baupost, said Klarman stands by the position in the letter.
William Kristol, editor of The Weekly Standard, didn’t immediately return a call for comment.
Ronald McKinnon, a retired economics professor at Stanford University, died yesterday prior to a Bloomberg call to his home.
Dan Senor, co-author of “Start-Up Nation: The Story of Israel’s Economic Miracle,” didn’t respond to a phone call to a spokesman or an e-mail seeking comment.
Stephen Spruiell, a spokesman for Elliott Management, declined to comment. Singer said in his firm’s July investor letter that “substantial inflation” is occurring in areas the Fed hasn’t “recognized or captured” in its analysis.
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