What the Fed did on Thursday
It was a pesach miracle. The Fed decided to initiate another program of $2.3 trillion, boldly buying credit it has never bought before (specifically junk bonds in the private sector and junk municipal bonds).
Yahoo Finance is saying the Fed is “seizing control” of the bond market. Forbes is calling it “community quantitative easing.” The truth is probably somewhere in between.
We have to remember that the Fed sustains capitalism, and this new program is pretty much what Bernie calls corporate socialism. On the other hand, I’m thinking of local and state governments that’ll basically go under without some kind of immediate financing. This program does that.
An explainer
Mark Blaho asked for an explanation of this for someone who only know what a saving account is.
It’s a great question and a test of my understanding too, so here goes:
Think of the word ‘finance’ not as a big evil complicated number monster, but as ‘how we pay for stuff’. Like how will I finance my education, how will I finance my shopping list, or how will I finance my knitting hobby.
We finance our hobbies by spending income we make thru working, and our educations largely through taking out loans. More and more people finance their shopping lists through credit cards.
It’s the same thing at bigger scales like governments and firms, or businesses. Instead of hobbies, at those larger institutions they have to finance things like municipal government budgets, state government budgets, and small-medium business budgets in the ‘private’ sector. They have to pay for labor, rent, infrastructure, etc.
Just like us, they pay for it using money they make by working (business do this through production, governments do it by taxing production). But they also do it by taking out loans. They actually have to take out loans to do anything in the short-term. It’s like people with credit cards who don’t make a lot of money.
Everything is paid for by a loan. Businesses don’t have a lot of money just sitting around, they have to get lines of credit to finance their budgets. Governments don’t get tax money immediately, so they have to get lines of credit too (they do this by selling bonds).
The Federal Reserve is the Boss of how loans and credit work. It manages interest rates, or the price of getting loans. Ever see a movie where a father gives his credit card to his daughter and just lets her spend like crazy? I just watched Reality Bites and there’s a scene where Winona Rider’s father gives her his gas card to use as she likes.
Since I apparently I think in 90s movies, the Fed is like Daddy with a credit card (except this Daddy can literally make money grow on trees). Usually, Daddy only extends credit to certain kinds of institutions under certain conditions, makes sure everyone is playing nicely as they lend each other things, provides a base line.
In 2008, Daddy gave credit cards to banks to make sure they could stay afloat.
But over the last few months, Daddy is paying for everything everywhere. And fast. Everyone gets a credit card, even small little institutions that are risky.
In this move, the Fed is giving a credit card to municipal governments that can’t pay their budgets. It’s giving credit to small businesses, big businesses, anyone. Why?
Because the pandemic shut everything down–and everything was very precariously balanced on lots of weird loans that everyone is pulling out of now because of the shock.
It’s pretty much exactly what happens when Winona Rider gets fired from her job. Her father tells her to get some “ingenuity.” So she pumps people’s gas, pays for it with the gas card, and pockets the cash. The Fed is basically giving an entire bond market the go-ahead to do that.