The Federal Reserve Board (the “Fed”) seldom does anything newsworthy, but recently it did just that.
It lowered its “target range” for something known as “the federal funds rate” by one half of one percent to 4.75-5.00 percent, its first cut in the target range in four years. Should you be happy or sad?
The answer is, neither. It would be hard to imagine anything more irrelevant or disconnected from the rest of the economy than changes in the federal funds target range.
There are countless economic myths but perhaps the most puzzling of them all is that the Federal Reserve Board has the power to control interest rate levels. That may also be the most widely believed economic myth.
The Fed has direct control over only one interest rate. It’s something called the “discount rate.” That’s the rate the Fed charges member banks to borrow reserves from it.
When the Federal Reserve System was established in 1913 the discount rate was expected to be a frequently used tool. A primary mission of the Fed was to be the “lender of last resort.” The hope was to prevent a “run on the banks” such as the one that happened in 1907. In that instance the lender who rescued the banks was the millionaire J. P. Morgan. Congress wanted to prevent that from happening again. But as usual when government tries to solve a problem, it creates even worse problems.
The discount rate is essentially irrelevant now. Very few banks borrow money from the Fed and all banks are, in fact, discouraged from doing so.
The interest rate you now hear about is the federal funds rate. The Fed has no direct control over this rate, so it only talks about its target range for it. Any changes in the target range are highly anticipated and widely reported. Everyone seems to think it matters somehow. It doesn’t.
What, you might ask, are federal funds? They are overnight loans among banks of their excess reserves. That’s about the shortest-term loan you’ll ever see. The direct impacts are all within the banking system — what is a cost for one bank is revenue for another.
The Fed never explains why this particular interest rate has become the most watched single interest rate in the country. Watching it is a waste of time.
Inflation Reduction Act” (IRA) passed by the Biden administration 2022. It is described by the Treasury Department as “One of the largest investments in the American economy, energy security, and climate in the nation’s history.” Inflation and higher interest rates have been the outcomes. A truer name for it would be “The Inflation Creation Act.”
An earlier, similar example was the 2021 “American Rescue Plan.” It was another mislabeled Democrat vote-buying scheme. Kamala Harris cast the tie-breaking vote in the Senate.
Expanding the money supply is the coward’s way to finance deficits and the result is inflation, i.e. “too much money chasing too few goods.”
Soon that inflation gets factored into interest rates by way of “inflationary expectations.” Lenders demand and get higher interest rates because they know the dollars they’ll be repaid will be worth less than the ones they lent. Borrowers are aware of that as well.
The Fed’s interest rate control myth may be a distraction but it’s not an innocent one. The Fed would have us believe that it has no part in creating inflation; that its job is to subdue inflation by manipulating interest rates. The truth is the Fed causes inflation by excessive expansion of the money supply in order to enable government overspending. The Fed’s interest rate sleight of hand is just a way to distract us from seeing what’s really going on.
Ron Ross PhD. is a former economics professor and author of The Unbeatable Market (soon to be available on Audible.) He is a member of the CO2 Coalition and resides in Arcata, California. He can be reached at rossecon@alo.com. His website is rossecon.com.
Image: Federal Reserve Board
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