There’s a lot of finger pointing and blaming going
around. Let’s follow the consequences
back to the original sources of cause and effect.
1)
Bank customers wanted to get better interest
rates now being offered by U.S. Treasury Bonds.
They were tired of not getting reasonable interest rates on their
savings being stripped away by high inflation building over the last two years.
2)
Banks, too, were trying to get a better safe return
on their assets by putting them in safe investments like U.S. Treasury
bonds. The bonds, prior to this year,
were only paying a small interest rate, but, it was better than nothing since
the bank was in business to cover the cost of providing service to its
customers and earn a reasonable profit for its stockholders who invested money in
the business.
3)
The banks having problems are being squeezed
because interest rates have quickly and significantly increased. The effect of that is to reduce the market
value of those bonds purchased prior to the large increases in interest
rates. When a bank has to cash in their
bonds to return deposits to customers, the value and therefore, the amount of
cash that can be raised is substantially reduced, to even less than the amount
of deposits.
4)
The Fed has raised rates rapidly as a response
to meeting their mandate to reduce and manage inflation. While it is clear that they were slow to
react to the first evidence of inflation about 18 months ago, inflation ballooned
so fast that the Fed believed it had to quickly catchup its response and
increased interest rates at a record rate and began to take money out of
circulation by no longer replacing/buying U.S. Treasury Bonds requiring the
private market to purchase those bonds which only could be purchased at a
higher interest rate. This is a result
of the economic axiom of supply/demand.
U.S. government was demanding to borrow money, but, the amount of money in
circulation is being reduced by the Fed.
5)
The Federal government was passing huge spending
bills that required large increase in borrowing. In the last two years The “American Rescue
Plan”, the “American Infrastructure Plan”, and misnamed “American Inflation Act”
added trillions in spending. Repeat,
here is another example of supply and demand imbalance. In the first two plans, the Fed accommodated such
spending by buying most of the issued bonds adding trillions to the money
supply. The American Inflation Act is
front-loading the spending and backloading the income to pay for it in later
years. The effect, of course, is to
create the situation causing inflation, “Too many dollars chasing the same of
fewer goods and services.” Fewer goods
and services have been caused by these programs that paid people not to work,
to stay at home. Millions of jobs have gone
unfilled and employers have had to pay significant increases in wages to compete
against other employers to keep employees.
6)
The inflation rate just prior to the new Biden
administration was under 2%. On day one,
President Biden took action to reduce “supply” by stopping the XL pipeline and
held up drilling permits for oil/gas exploration. Gas and Oil prices (due to supply/demand)
immediately began to take off. In just
over one year, pump gas prices moved from $2.39 per gallon of gasoline to more
than an average of $5 per gallon ($7 in California). Energy prices calculate into all goods and
services. Shipping and deliveries,
production of products, personal transportation, and food production are
significantly affected. Inflation rate
moved from less than 2% to nearly 10% (when cost of energy and food) are
included. Added to the causes were the banning
of using Russian oil (another supply reduction) and supply chain problems (caused
by staffing and Chinese COVID issues).
7)
The new Administration’s war on oil industry and
other supply reduction issues, excessive and unnecessary spending have caused a
huge mismatch of supply and demand balance that has caused this huge
inflationary crisis that required the slow to react Fed to take radical actions
to raise interest rates that banks and customers reacted to in a manner that
has ended in this financial crisis.
8)
There is a lot of blame to go around, but, when
one looks at it, the root of the matter is the policies of the Biden administration
that decreased supply of energy and labor while its spending policies accommodated by money printing
at the Fed created trillions in new demand. The result
has been huge inflation and all of the problems that result.
